As more people are getting vaccinated and economic conditions return to normal, Franklin Equity Group’s Jonathan Curtis says the digital transformation themes that accelerated during the COVID-19 crisis are still just getting started. He still sees plenty of opportunities ahead in the technology sector, despite a recent falloff in investor interest in the first quarter.
While global equities rose overall in the first quarter of the year, investor preferences shifted away from information technology (IT) companies and market volatility increased in the face of four key factors: elevated valuations; rising interest rates; increased inflation expectations; and a rotation into “reopening” sectors expected to benefit from an improving COVID-19 vaccination trajectory.
IT sector valuation had been elevated in absolute terms early in 2021 but appears more reasonable to us now in relative terms following the recent period of selling pressure. We also believe that the sector likely should command a valuation premium to the broader market given the improving quality of companies within the space—e.g., a growing number of recurring revenue sources, strong balance sheets and strong overall EBITDA1 margins—and their growth characteristics. We believe the sector offers solid exposure to strong secular opportunities relating to the digital transformation (DT) theme, which we believe is just getting started, and also could prove a solid cyclical winner with high leverage to post-pandemic reopening and infrastructure investment activity.
We remain focused on the big theme of DT, which is about using software and data to better understand customers and business processes and technology to radically transform how businesses work. We believe DT represents a multi-trillion dollar opportunity that is still in its early days. While the pandemic shone a bright light on our thesis, we do not think that this opportunity is over.
Even as people begin to get vaccinated and economic conditions return to normal, we expect enterprises to use the years ahead to evaluate what did and did not work during the crisis, scale what did work, abandon what didn’t and continue to progress or evolve in their digital journeys. Customers have also learned new behaviors related to the digitization of previously in-person activities, which we think will be enduring. Simply put, we believe we are at the beginning of what is possible as consumer experiences and businesses digitize, and we foresee a multitude of potential investment opportunities in the years ahead.