After a disappointing 2022 that saw many popular stocks decline substantially in price, 2023 was a bounce-back year. Investors are hoping this optimism can carry over into the new year.
Take the so-called "Magnificent Seven" stocks. The average return of these well-known businesses in 2023 was a stellar 113% (as of Dec. 28). Are better days on the horizon?
While it's hard to know what the next 12 months will hold, there are three reasons to believe that tech stocks could explode even higher in 2024.
Operational improvements
It seems like tech- and internet-related businesses benefited the most from the pandemic, which led to a surge in demand. During this time, many of these companies cared about growth over anything else, which led to bloated cost structures and inefficiencies.
These days, though, it's all about operational improvements. In the last year or so, we've seen tens of thousands of employees laid off at some of the most dominant corporations, like Meta Platforms, Alphabet, and Amazon. In the case of the e-commerce juggernaut, Amazon had invested way too aggressively in its logistics network in 2020 and 2021.
Besides the "Magnificent Seven," smaller businesses have also been focused on right-sizing operations. Etsy recently laid off 11% of its workforce. And PayPal's new CEO, Alex Chriss, emphasized prioritizing financial discipline on his first earnings call.
The hope is that these strategic moves will result in expanding margins and higher profitability. As we look toward 2024, improving bottom lines among tech companies may be a huge boon for share prices.
Image source: Getty Images.
Stronger economy
Ever since the Great Recession about 15 years ago, there has only been one major economic disruption -- the pandemic. But this was short-lived. Consequently, tech companies have typically operated in a robust macro backdrop.
However, things changed in early 2022 when the Federal Reserve started to aggressively hike interest rates. Higher borrowing costs, coupled with elevated levels of inflation, can seriously pressure consumer spending. Tech businesses experienced huge slowdowns in growth, which is why some of their share prices remain well off their peaks.
If the central bank starts to cut rates multiple times throughout 2024, it would benefit the most speculative of tech businesses the most. They'd have access to cheaper financing. Plus, investors would be more forgiving of the fact that they don't generate profits.
But even industry leaders like Apple and Tesla would benefit from a stronger economy. The iPhone maker has registered year-over-year sales declines in each of the past four quarters. And the auto disruptor posted a surprising single-digit revenue increase during the three-month period that ended Sept. 30, an extremely disappointing showing.
Should the economy pick up steam in 2024, it's easy to believe that tech stocks will be among the biggest winners.
Valuation upside
It's hard to lump all tech businesses together, but some of these enterprises could soar in the new year thanks to another key factor: increasing valuations. Of course, stock prices have to be reasonably valued right now for this to be a tailwind.
In the "Magnificent Seven" group, Meta and Alphabet shares trade at forward price-to-earnings ratios of 24.9 and 24.3, respectively. For two of the most successful companies of all time, both with powerful network effects underpinning their core segments, I believe these valuations remain attractive, even after huge price run-ups in 2023.
Looking to 2024, there is still meaningful upside from a purely valuation perspective. This is especially the case if what was previously mentioned, like margin improvements and favorable economic conditions, become more pronounced.
