Consider the Tech Sector

 | Mar 13, 2014 | 11:30 AM EDT
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The pessimist complains about the wind; the optimist expects it to change; the realist adjusts the sails. --William Arthur Ward

I continue to be cautious about the market after the huge rally in 2013. There are myriad signs that concern me regarding the direction of the global economy. The most recent is the huge drop in iron ore, coking coal and copper prices. "Dr. Copper" is now trading at four-year lows and Chinese demand has to be a concern.

In addition, I am very wary about the high flying momentum stocks that have had huge rises over the past year. Sentiment on these stocks can change on a dime and one only has to look at the performance of the small-cap alternative energy stocks on Tuesday to see how fast these gains can reverse.

The space was on fire to start the day with 10% to 20% gains in early morning following solid results from FuelCell Energy (FCEL) after the bell on Monday. This early morning strength reversed violently in the afternoon on a report from Citron saying their intrinsic value calculation on Plug Power (PLUG) is just $0.50 a share. Plug Power, Ballard Power Systems (BLDP) and FuelCell Energy ended the day down 15% to 40% for the day. This is one of deepest daily reversals we have seen in any sector in recent memory.

I would rather pay 8x to 12x earnings for a company growing revenues consistently in the mid-single digits than to pay 80x to 120x earnings for an entity growing revenues in the 20% to 40% range. In this market, I am erring on the side of caution.

Finding sectors that can provide this growth at a reasonable valuation is somewhat challenging. Retail is a mess after posting 40% returns in 2013. Homebuilders are under pressure and Industrials seem fully valued. Given the fall in commodity prices recently, I am wary of most of the mining and material sectors.

One sector that seems to deliver growth at a reasonable price here is Technology. My two biggest holdings in the sector continue to be Microsoft (MSFT) and Apple (AAPL). Both have fortress balance sheets, huge cash balances and pay a decent dividend. In addition, both stocks sell at significant discount to the market multiple despite delivering sales growth in the 5% to 7% range. I think they are both safe picks here.

I also like some smaller plays in the tech space such as Kulicke & Soffa Industries (KLIC). The company produces equipment and tools for use in the semiconductor industry. Kulicke & Soffa is the market share leader in the wire bond, wedge bond, stud bump and capillary markets.

The company easily beat earnings expectations during its last quarterly report in late January -- even if it offered conservative forward guidance. Revenues should be roughly flat this year but consensus estimates are calling for sales growth in the teens during fiscal 2015, which starts in October.

The stock goes for under 14x trailing earnings, which is a slight discount to the overall market multiple. However, this metric is misleading. Kulicke & Soffa has net cash on the books roughly equal to 60% of its overall market capitalization. Accounting for cash, the shares are trading for less than 6x trailing earnings. I think this cash hoard would be the target of activists if it wasn't that the company is located in Singapore. Nonetheless, the stock has great value at these levels and has been on the move up recently.

All of the selections offer decent growth at a reasonable price. I am overweight the technology sector overall and if the market does pull back significantly, I expect these cash-rich enterprises to easily outperform.



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