This year began in stark contrast to its predecessor, with the major market indexes gaining 20% or more from their respective bottoms to kick off 2023. That said, the market recovery has been largely uneven, with technology stocks leading the gains while other sectors of the market have lagged.
Since late July, however, the uptrend has lost its momentum, and the indexes gave back some of those earlier gains. Wall Street might finally be awakening to the reality that the Federal Reserve Bank could keep interest rates higher for longer, and the full recovery will take time. This realization has some investors running for the exits, but that could be a costly mistake.
The glass is half-full
While some investors view the recent market weakness as a harbinger of things to come, Wedbush tech analyst Dan Ives is much more upbeat. He acknowledges in a note to clients last week that the Fed stance and rising Treasury yields suggest that interest rates could remain elevated for some time, causing "white knuckles" on Wall Street. Further exacerbating the situation is the seemingly relentless campaign of antitrust lawsuits leveled at big tech by the Federal Trade Commission (FTC).
Image source: Getty Images.
Despite these concerns, Ives believes investors are missing the forest for the trees. "Our bullish stance on tech is unchanged despite market fears," he writes. "Our view of tech stocks is that the transformational growth around AI, cloud, cybersecurity, and rebound of digital ad dollars will create a springboard of growth into 2024 that is currently being underappreciated" by Wall Street.
Ives' client note struck a bullish tone, citing four secular growth trends that he believes will buoy the markets, providing a "springboard to growth into 2024." Let's take a look at these four secular trends and some of the stocks that stand to benefit.
1. The return of digital advertising
One of the areas hardest hit by the downturn was digital advertising, which came as no surprise to market historians. The ability to dial back and ramp up advertising makes it the go-to for companies looking to rein in spending on short notice.
Two companies that bore the brunt of these cutbacks were Alphabet (GOOGL +2.53%) (GOOG +2.92%) and Meta Platforms (META +1.33%), as the lion's share of their revenue comes from ad dollars spent on their respective platforms. Revenue growth slowed to 10% for Alphabet last year, down from 41%, while Meta Platforms' growth reversed course, declining 1%, down from 37% growth.
NASDAQ: GOOGL
Key Data Points
As the economy finds its footing, these online advertising stalwarts will see a significant rebound in ad sales. Indeed, that rebound may have already begun, but the full impact of the return of marketing dollars has yet to be reflected in the stock prices.
Furthermore, digital ad spending is projected to grow 9.3% in 2023 and 10.9% in 2024, according to data compiled by Insider Intelligence and eMarketer. This will no doubt boost the fortunes of Alphabet and Meta Platforms.
2. Cybersecurity
You might be tempted to think that spending on cybersecurity would be as close to recession-proof as it gets, but it turns out that isn't always the case. In fact, cybersecurity spending increased just 6% year over year between the 2022 and 2023 budget cycles, a 65% reduction from the 17% growth during the previous cycles, according to data provided by the Institute for Applied Network Security (IANS) and Artico Search.
Numerous investor-favorite cybersecurity companies experienced slowing growth over the past couple of years, including CrowdStrike (CRWD 1.79%) and Zscaler (ZS 1.82%). For its fiscal 2023 (ended Jan. 31) CrowdStrike increased sales by 54% -- down from 66% growth the prior fiscal year. For Zscaler's fiscal 2023 (ended July 31), revenue grew 48%, down from 61%. While both held up remarkably well, the impact of the downturn was clear.
NASDAQ: CRWD
Key Data Points
Yet, as historical spending patterns resume, CrowdStrike and Zscaler are well positioned to benefit from the upside. Global security and risk management spending is expected to grow to $215 billion in 2024, an increase of 14%, according to IT consulting firm Gartner.
As two of the leaders in zero trust cybersecurity, CrowdStrike and Zscaler should garner more than their fair share of the increased spending.
3. Cloud computing
Despite the downturn, the digital transformation persisted, albeit at a slower pace. One of the key components of this trend is the shift to cloud computing, which allows companies to forego the need to own and maintain expensive in-house servers. As the Big 3 cloud providers, Amazon (AMZN +0.53%), Microsoft (MSFT +0.66%), and Google Cloud each experienced slowing growth.
That isn't surprising. Growth in the worldwide cloud infrastructure services market slowed to 29% in 2022, down from 35% growth in 2021, according to a report by market analyst Canalys. This slowdown continued into 2023, the result of "macroeconomic uncertainty," according to the report.
However, growth is expected to tick higher over the next few years, with worldwide spending on cloud services projected to reach $1.35 trillion by 2027, a compound annual growth rate of 20%, according to market intelligence firm International Data Corp. (IDC).
As the Big 3 cloud providers, Amazon, Microsoft, and Google Cloud are best positioned to benefit from that trend.
4. Artificial intelligence
Last (but certainly not least) is the accelerating adoption of artificial intelligence (AI), though estimates regarding the potential market size vary widely. While Ives estimates AI spending at roughly $1 trillion over the coming decade, analysts at Morgan Stanley and Goldman Sachs peg the opportunity at $6 trillion and $7 trillion, respectively. Cathie Wood of Ark Investment Management is even more bullish, suggesting AI could be worth $14 trillion by 2030.
To be clear, no one knows for sure just how big the market will be, and much depends on how quickly the technology is adopted and how widespread it becomes. Ives says, "Use cases for AI are exploding," which gives you some idea of the potential.
NASDAQ: NVDA
Key Data Points
Nvidia (NVDA +5.93%) is the poster child for this potential, having developed the semiconductor and software stacks that made generative AI possible. In the company's fiscal second quarter (ended July 30), record revenue of $13.5 billion grew 101% year over year, while earnings per share (EPS) of $2.48 soared 854%. While it remains the clearest winner, some investors are put off by the lofty valuation, as the stock is currently selling for 105 times earnings and 33 times sales.
Another sterling option is the abovementioned cloud infrastructure providers: Amazon Web Services, Microsoft Azure, and Google Cloud. All three are well positioned to benefit from AI as they integrate AI into the services offered to their cloud customers. Businesses without the resources to develop their own AI models will invariably turn to cloud providers to get their AI fix.
