Tech Stocks for Value Hounds

First, in the aggregate, tech stocks strike an attractive valuation profile right now. Even after the sector's recent runup, the typical tech fund's average P/E reflects just a modest premium relative to the S&P, and its average price/book and price/sales multiples currently fall below the S&P's. That's the case despite the technology peer group's much better growth measures. The typical tech fund's average sales, cash flow, and book-value growth metrics all trump the S&P's by wide margins--over 45 percentage points in each case. There's a similarly large gap between the market's and the category's historical earnings. On the theory that stock prices eventually follow earnings growth, the appeal of the technology sector for value hounds isn't hard to see.

Second, the sector's fundamentals should look especially attractive to investors who favor financially healthy firms that appear to be trading at steep discounts to their intrinsic value. In addition to its superior growth attributes, the typical tech fund's holdings are, on average, both financially healthier and more profitable than the broader market as gauged by the S&P. It has higher cash return and free cash flow yield figures, too--indications that the typical tech fund owns firms whose managers have put capital to work more efficiently and with above-average success.

It's true that, according to Morningstar's equity-research group, the percentage of firms with economic moats that reside in the typical tech fund's portfolio falls slightly below the S&P's moat percentage. Still, roughly 85% of that fund's assets are invested in firms that do possess sustainable competitive advantages (that is, economic moats).The figure for the S&P, whose companies enjoy wider moat coverage from Morningstar's equity analysts, clocks in at 91%.

Drift Away?
Attractive valuations and fundamental strength don't guarantee investment success in any particular market cycle. Indeed, during 2009's risk-fueled rally, solid profitability and robust financial strength worked against many companies and the mutual funds that held them. Moreover, most investors probably have all the technology they need, given that the sector accounts for roughly 20% of the S&P 500.

However, investors who may be scratching their heads over the level of tech exposure they're getting from their value and blend funds shouldn't assume their managers have drifted from their strategies to become free-spending buyers of richly priced growth stocks. These days, even deep-seated blue-light specialists should be able to find much that they like down the market's tech aisle.