The Federal Open Market Committee, the policymaking arm of the Federal Reserve, expects the U.S. economy to slip into a mild recession before the end of 2023, with a recovery taking place in the subsequent two years. Some investors will trade that news by purchasing stocks in defensive sectors like utilities and consumer staples. There is nothing wrong with that strategy, but risk-tolerant investors should consider being more aggressive.
The economy has weathered two recessions in the last 20 years, but the technology sector (not defensive sectors) has generated the best returns during that time period. In fact, tech stocks in the S&P 500 index soared more than 1,000% over the last two decades, which is more than double the return of the next closest sector and well above the 363% return of the broader market.
Here are growth stocks in the technology sector to buy now.
Shopify: E-commerce
Shopify (SHOP -2.37%) got rocked by economic headwinds last year. Sales slowed as high inflation led to a decline in consumer spending, but operating expenses continued to climb as the company leaned into growth initiatives like the Shopify Fulfillment Network (SFN). That combination led to disappointing financial results. Fourth-quarter revenue increased 26% to $1.7 billion, a sharp deceleration from 41% growth in the prior year, and cash from operations dropped 12% to $255 million.
Unfortunately, the situation will likely get worse before it gets better. Management expects revenue growth in the high-teen percentages in the first quarter of 2023. But investors need to focus on the big picture. Shopify has $5 billion in cash and short-term investments on its balance sheet and just $913 million in long-term debt. Shopify should have no trouble weathering a recession with that kind of capital, and its growth should reaccelerate when economic conditions improve.
The investment thesis is simple: Shopify is the leader in e-commerce software. Its platform unifies physical and digital sales channels on a single platform, allowing businesses to manage orders and inventory across online marketplaces, brick-and-mortar shops, and direct-to-consumer websites from one interface. Few (if any) vendors afford merchants the same level of flexibility, which means Shopify is exceptionally well positioned to benefit as the e-commerce market continues to expand.
The company is also working to grow upmarket with Shopify Plus, a commerce platform built for larger brands. Plus merchants can access sophisticated tools for automation, analytics, marketing, and wholesales commerce, and that value proposition is resonating with the market. Shopify Plus accounted for 33% of monthly recurring revenue in the fourth quarter, up from 29% in the prior year.
Finally, Shopify aims to democratize logistics with the SFN. Scaling a fulfillment network will undoubtedly be a headwind to profitability in the near term, but the SFN will ultimately make Shopify a more compelling option for merchants by providing fast and reliable delivery options across multiple sales channels. That will further differentiate Shopify from its peers.
Currently, shares trade at 11 times sales, an absolute bargain compared to the three-year average of 32.9 times sales. That creates a worthwhile buying opportunity for patient investors.
Cloudflare: Cloud computing and cybersecurity
Cloudflare (NET -0.23%) provides application, network, and zero-trust services that improve the speed and security of software and infrastructure, while eliminating the need to manage on-premises network hardware. The company also provides compute and storage solutions that let developers build and deploy performant applications, websites, and streaming experiences. Cloudflare runs the fastest cloud network and developer platform on the market, and the company has garnered widespread praise from industry experts.
IT consultancy Gartner recently positioned Cloudflare as a leader in web application and API protection, and research company G2 recognized its leadership in content delivery network software. Cloudflare has also been commended as a leader in web application firewalls and edge development platforms by Forrester Research. Suffice it to say the company is a rising star in the cloud computing and cybersecurity industries.
Cloudflare reported reasonably strong financial results in the first quarter. Its customer count increased 13%, and the average customer spent 17% more. In turn, revenue climbed 37% to $290 million and the company generated positive cash from operations of $36 million, up from a loss of $36 million in the prior year. But the stock still plummeted following the report as Wall Street took issue with weak guidance. Fortunately, that creates a buying opportunity for patient investors.
Cloudflare should have no problem reaccelerating growth in a more favorable economic environment, but the company is particularly well positioned to become a prominent player in zero-trust security. Its ability to combine superior performance and freemium pricing has brought a large amount of traffic to its cloud platform. In fact, nearly 20% of the web is protected by at least one Cloudflare service, giving the company unparalleled visibility into security threats across the internet. That data advantage should drive adoption of its secure access service edge (SASE) platform, Cloudflare One.
SASE platforms are the future of network security. Gartner says 80% of enterprises will implement SASE technology by 2025, up from 20% in 2021. That should be a material tailwind for Cloudflare, especially because Cloudflare One accounts for a significant portion of its $125 billion addressable market.
Currently, shares trade at 15.7 times sales, a bargain compared to the three-year average of 42 times sales. That's why investors should buy a small position in this growth stock today.
