Tech Stocks Are on Fire Right Now. Can They Get Any Hotter?

Key Takeaways

• Tech stocks extended a weeks-long rally on Friday as AI enthusiasm sent semiconductor and memory stocks sharply higher.

• Some analysts expect tech to continue to lead the market, buoyed by strong earnings growth that has prevented stock valuations from ballooning with share prices.

Watching the stock market, you’d be forgiven for thinking “AI” stood for “ascending indefinitely.”

Tech stocks ripped higher on Friday, extending a relentless rally off of late March’s lows. The tech-heavy Nasdaq rose more than 1% Friday to trade at a fresh record. The index has advanced more than 25% since March 30, a stretch that includes a 13-day winning streak early last month. The S&P 500’s tech sector, meanwhile, added some 2.5% today.

Semiconductor stocks have been at the vanguard of the rally. The PHLX Semiconductor Index (SOX) is up more than 60% in the past six weeks, propelled by Big Tech’s massive AI data center investments. Shares of Nvidia (NVDA), a $5 trillion company, are up 30% in that time and touched an intraday record Friday morning. Broadcom (AVGO), the U.S. chip industry’s second-largest company, is up 45%. Intel (INTC) is flying today, continuing a rush past record highs that stood for decades.

Why This Is Important

The AI data center boom and Wall Street’s enthusiasm for it have caused the tech sector’s weight within the S&P 500 to swell to historic levels. As a result, trillions of dollars in funds that track the benchmark index are increasingly tied to the fate of the nascent technology.

The gains have been most pronounced for memory chip makers like Micron (MU), whose revenue and stock have soared due to surging demand from AI data centers. The company late last year said it was sold out of high-bandwidth chips through 2026, and in March said its quarterly revenue tripled from the prior year. The stock has gained more than 150% this year, and was up 13% Friday. Earlier this week, Micron’s South Korean competitor, Samsung, became the latest company to reach a $1 trillion market capitalization after last week reporting its memory chip revenue doubled and profit tripled in the first three months of the year.

Even software stocks, which were pressured earlier this year by worries about AI-driven disruption, have caught an updraft. Shares of Datadog (DDOG) skyrocketed more than 30% on Thursday after the software vendor topped earnings estimates and touted two sizable new deals with major AI labs, boosting investor confidence AI models can be a complement to software, rather than a direct competitor. The iShares Expanded Tech-Software Sector ETF (IGV) is in the red this year, but it has risen more than 16% since late March. 

The tech rally has at times sparked debate about an AI bubble characterized by runaway spending on data centers and sky-high stock valuations. But those jitters have been quelled during the recent run up by an historically strong round of earnings reports. With just one-tenth of the S&P 500 left to report first-quarter results, 84% of the index has topped earnings estimates, the highest share since 2021, according to FastSet Research. The index is on track to post profit growth of nearly 28%, also its highest since 2021.

Tech results have been especially strong. Semiconductor earnings have doubled since last year, driving a 50% increase in profit for the tech sector as a whole. The Communications Services sector’s earnings are up 49% year-over-year; exclude tech giants Alphabet (GOOG) and Meta (META) and its profits are actually down 5%. 

Some investors fear that AI enthusiasm is making stock market returns as concentrated as the media sector’s profits. The five largest companies in the S&P 500—Nvidia, Alphabet, Apple (AAPL), Microsoft (MSFT), and Amazon (AMZN)—account for about 30% of the index in terms of market capitalization, and the top 25 represent more than 50%, according to a recent analysis from Wolfe Research. More than half of those 25 companies are widely considered tech stocks. 

Wolfe researchers expect the market will remain top-heavy and tech-dominated until enthusiasm for AI wanes. “Our sense is that a peace deal [with Iran] could spark a short-term broadening out in markets, as oil prices and bond yields fall,” the analysts wrote. “However, we believe that ultimately investors will shift back to the AI theme to drive the market, given the outsized earnings growth and relatively attractive valuations exhibited by these companies.”

Read the original article on Investopedia