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Finding High Growth Technology Stocks To Invest In


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Finding High Growth Technology Stocks To Invest In | What Has Changed

High Growth Technology StocksA mistake investors often make when investing in the stock market is thinking that all technology companies are high growth technology stocks and an investment in any technology stocks should outperform the broader stock market.  While technology stocks as an investment sector (known as the tech sector) often outperform the broader stock market, the reality is that companies in technology related fields have various growth rates, and some do not grow at all and turn out to be terrible investments.  Additionally, many companies in technology related fields have matured in recent years and have started paying dividends, which has caused them to trade more like traditional dividend-paying stocks, rather than high growth momentum stocks.

The Key To Finding High Growth Technology Stocks To Invest In

Earnings Growth RateThe key to finding high growth technology stocks to invest in is to find technology companies that have a low Price/Earnings/Growth (PEG) ratio.  The PEG ratio is an extension of the traditional price-to-earnings ratio (P/E ratio) stock valuation method.  A P/E ratio is arrived at by dividing a stock’s current price to by the total reported company earnings per share over the past twelve months.  The P/E ratio is then divided by a company’s expected earnings growth rate to come up with the PEG ratio.

For example, Apple Inc. (NASDAQ:  AAPL) earned approximately $40 per share over the past twelve months and trades at approximately $470 per share.  Dividing $470 per share by $40 per share in reported earnings gives AAPL a P/E ratio of 11.75, which is relatively low for a technology company.  To determine AAPL’s PEG ratio, divide the P/E ratio by the expected earnings growth rate over the next twelve months.  If AAPL is expected to grow earnings by 20 percent over the next twelve months, then AAPL’s PEG ratio would be AAPL’s P/E ratio of 11.75 divided by 20, which gives AAPL a PEG ratio of approximately 0.59.  A PEG ratio below 1 indicates a stock is undervalued relative to the future earnings growth rate, so therefore AAPL with a PEG ratio well below one is a high growth technology company that appears to be undervalued based on current earnings and the company’s future earnings growth rate.

The PEG ratio can be particularly useful when assessing high growth technology stocks that have high P/E ratios.  The average P/E ratio of the entire stock market is approximately 15 when averaged over long periods of time.  However, high growth technology stocks often trade at much higher P/E ratios closer to 30, which investors tolerate since P/E ratios for these high growth stocks can be reasonably expected to fall, as high rates of earnings growth bring them down.  A technology company that has a P/E ratio of 40, but also has an 80 percent growth rate, has an attractive PEG ratio of 0.50, which indicates that despite its current high P/E ratio, it is undervalued when the future earnings growth rate is factored into the stock’s valuation.

How High Technology Company Investing Has Changed In Recent Years

The technology sector was hit hard during the 2000 to 2002 bear market, with the technology laden NASDAQ composite losing nearly 80 percent of its value over that time period.  They also took a hard hit during the 2008/2009 financial crisis that produced another severe bear market.  These two steep technology stock sell-offs have caused investors to reconsider how much they are willing to pay for technology stocks and take a more cautious approach towards investing in them.

The two recent bear markets and the fact that many of the mainstream name-brand technology companies have matured in recent years into lower growth, dividend paying companies, have caused the technology sector to break into sub-sectors that trade in different ways that investors need to understand.

The first technology sub-sector is comprised of traditional high growth technology companies with low PEG ratios.  Technology stocks that fit into this category still trade in the traditional momentum oriented fashion that has been characteristic of high growth technology stocks for decades.  Stocks in this technology sector sub-sector often have P/E ratios that are sky high, sometimes over 100, as momentum takes over and investors anticipate strong earnings growth ahead.  Examples of high growth technology stocks in the first technology sub-sector include:

    • LinkedIn (NASDAQ:  LNKD)
    • Qihoo 360 Technology (NYSE:  QIHU)
    • 3D Systems (NYSE:  DDD)
    • Maxwell Technologies, Inc. (NASDAQ: MXWL)

High Growth Technology Stock

The second technology sub-sector is comprised of well-known technology companies that have been around for years and have started to pay dividends to stockholders instead of plowing all of their earnings back into their businesses.  With lower earnings per share growth rates, these companies tend to have higher PEG ratios than their high growth cousins.  Technology stocks that fit into this category trade more like dividend paying stocks in the broader stock market, with less speculation, less momentum trading, less volatility, and lower P/E ratios.  Examples of dividend technology stocks in the second technology sub-sector include:

  • Intel Corporation (NASDAQ:  INTC)
  • International Business Machines (NYSE:  IBM)
  • Cisco Systems (NASDAQ:  CSCO)

Watch For Recessions When Investing In High Growth Technology Stocks

It is a good idea to keep an eye on the outlook for economic growth for signs that a recession may be on the horizon, since high growth technology stocks are not only some of the fastest rising stocks in a bull market, but also tend to be the fastest falling stocks in a bear market sell-off.  Using a trailing stop-loss order while holding high growth technology stocks is a good way to book profits and avoid holding during a steep sell-off, if the stock market changes direction and goes from a bull to a bear market.

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One Response to “Finding High Growth Technology Stocks To Invest In”

  1. Chitra says:

    It’s a technology that has double-your-money profit potential because of all it can do if you invest carefully. There is a certain element of risk attached when buying shares in the sector

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