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Albert Edwards warns of a tech stock bubble amid high valuations.
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The tech sector is now 37% of the US stock market, surpassing the dot-com era peak.
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But rising bond yields will eventually stop the rally, Edwards said.
Like the high market valuation levels he warns about, Société Générale strategist Albert Edwards‘ bearish missives don’t tend to serve well as near-term market timing tools.
He acknowledges as much.
“An equity investor who heeded my words of caution on the US Tech ‘bubble’ will by now have taken to sticking pins in plasticine models of me,” Edwards wrote in an August 21 note to clients. “Indeed, my ankle has been hurting for over six months and although the physio says it is tendonitis, I strongly suspect otherwise.”
But there’s no denying that Edwards, a stark contrarian amid the pervasively bullish attitude on Wall Street these days, has some concerning observations about where the market sits — particularly with respect to tech stocks, and in the context of government bond yields.
Building on his argument that the market is in a bubble, he highlighted in his latest note that the tech sector now makes up 37% of the total US market, which is higher than at the peak of the dot-com bubble in 2000. Over the last few years, investors have piled into tech amid the frenzied excitement about AI.
Another metric showing that the tech sector has historically high valuations is a falling free cash flow yield. This means that current market prices are high relative to cash flow after expenses as tech firms dump money into AI development. The sector has a free cash flow yield of around two. This is also reflected in the S&P 500’s low dividend yield of 1.2%.
Meanwhile, long-term government bond yields have surged at the same time as the tech rally, and offer virtually risk-free yields of over 4%.
The ratio of 10-year Treasury yields to the market’s dividend yield has climbed to dot-com era levels.
Historically, rising bond yields have weighed on stock valuations, but that hasn’t seemed to be the case so far in this market. Edwards says it’s only a matter of time until that changes.
“Only the other day, interest rates were rock bottom and equity bulls were telling us that sky high equity valuations were justified by TINA — There Is No Alternative,” he wrote. “But that TINA magic no longer works, now that interest rates are so much higher. So, how come the equity market is able to shrug off the relentless rise in long bond yields by feeding off news of strong profits from a handful of mega-cap tech stocks and the promise of more to come?”
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