Key points

• November was a strong month for global equities and an even stronger one for the technology sector as bond yields declined significantly
• Comments from the US central bank suggesting the interest rate hike cycle may be over provided a more supportive market backdrop
• We expect the pace of AI adoption to prove a key determinant of sector fortunes during 2024
  
  

Market review

Global equity markets rebounded in November. The MSCI All Country World Net Total Return Index returned +5.1% while the S&P 500 Index gained +5.1%, its largest monthly gain since July 2022, and the DJ Euro Stoxx 600 Index gained +5.7% (all returns are in sterling terms unless stated otherwise).

The Federal Reserve (Fed) held the federal funds rate steady, as expected, but Fed Chair Jerome Powell repeatedly noted that financial conditions had tightened "significantly", fuelling investor optimism that the Fed’s rate hike cycle may be over. This was reinforced by cooling employment and inflation data which supported hopes of a soft economic landing where inflation comes down without a significant increase in unemployment. US 10-year Treasury yields saw their biggest monthly decline since the global financial crisis (down 70bps peak to trough), also benefiting from lower bond issuance. The US dollar index saw the biggest drop in a year, falling 3%, with almost every major currency rallying against the dollar.

The US labour market is slowly cooling. The economy only added 150,000 jobs in October, well below the 297,000 added in September (and below forecasts of 180,000) accompanied by downward revisions to previous months. Average hourly earnings only increased +0.2% month on month (m/m; below forecasts of +0.3%), tempering concerns around wage inflation.

Inflation is also tempering. The US Consumer Price Index (CPI) was unchanged m/m in October (below forecasts of +0.1%), with slowing housing price increases and declining gasoline costs. The annual inflation rate slowed to +3.2% year on year (y/y), below forecasts of +3.3% and well below peak levels. Core CPI, which excludes volatile items such as food and energy, slowed for the seventh month in a row to +4% y/y.

As anticipated, the Fed kept the target range for the fed funds rate unchanged at its 22-year high of 5.25-5.5%. Powell’s press conference fuelled optimism that the rate hike cycle may be over which supported risk assets, stating that the “stance of policy is restrictive”, although he also noted the committee is not yet confident that financial conditions are restrictive enough to take inflation back below the Fed’s 2% target.

Technology review

The technology sector outperformed the broader market in November. The Dow Jones Global Technology Net Total Return Index gained +8.2%. The NASDAQ Index enjoyed one of its best months in years, benefiting from speculation that the Fed’s rate hike cycle is over as well as falling Treasury yields.

Large-cap technology stocks only modestly underperformed their small and mid-cap peers in the rally; the Russell 1000 Technology Index (large cap) and Russell 2000 Technology Index (small cap) returning +8.2% and +8.6% respectively.

Strength was broad-based across technology subsectors. The Philadelphia Semiconductor Index (SOX) returned +11.6%, while the NASDAQ Internet Index and Bloomberg Americas Software Index returned +10.3% and +9.5% respectively.

There were some notable reports during the tail end of earnings season. Apple’s results were modestly above expectations, with revenue -1% y/y; iPhone revenue was in line at +3% y/y, while Services grew +16% y/y, offsetting weaker trends for iPad, Mac and Wearables. Next quarter guidance for revenue to be flat y/y was below market forecasts, however, as the company continues to navigate a challenging macroeconomic environment. We further reduced our position after the results.

In the semiconductor sector, we trimmed our NVIDIA position ahead of the quarter given elevated market expectations. Fortunately, the company delivered an outstanding quarter, with revenue up +34% q/q, +206% y/y to $18bn, driven by strong graphics processing unit (GPU) sales into the data centre market as customers invest aggressively to build out their artificial intelligence (AI) capabilities. Next quarter guidance implies further revenue growth of +10% q/q despite expectations for China revenue to “decline significantly” due to incremental restrictions from the US government.

Rival Advanced Micro Devices was impacted negatively initially, but the stock rallied later during the month following solid results at the end of October, where the company guided for its new MI300 chips to generate $2bn of revenue in 2024. Intel* also rallied, after better-than-expected results in October driven by upside from the PC end market and optimism about its new server product launches. Chinese semiconductor IP vendor eMemory Technology also rallied on the coat tails of ARM Holdings* given its ARMv9 architecture embeds eMemory IP into the chip.

Electronic hardware producer Quanta Computer maintained its guidance for double-digit server revenue growth for 2023 but highlighted that a more severe shortage of AI GPUs (graphics processing units) could cap its AI server contribution for the next couple of quarters, despite a stronger AI server order outlook. Pure Storage, a data storage provider, issued soft Q4 guidance due to a large order being delayed, as well as a transition from upfront purchases to storage-as-a-service subscriptions. More positively, management revealed the company has had AI wins account for c10% of revenue. Fabrinet, a contract manufacturer, underperformed during the month, potentially due to a large share sale from one of the directors. Cisco Systems* fell as the communications and networking technology company cut its full-year revenue and profit forecasts on slowing demand for its networking equipment.

In the internet sector, we increased our position in Shopify after a strong quarterly report, with revenue up +25% y/y, driven by resilient consumer spending and ongoing e-commerce penetration. Germany, France and the UK were notably strong. Profitability was also ahead of expectations due to rigorous cost control, which will continue to be a tailwind next quarter. On the AI front, Shopify has integrated Shopify Magic (a suite of free AI-enabled features) and merchants are seeing early signs of improved productivity. Encouragingly, Black Friday sales at Shopify Merchants grew +22% y/y cc (constant currency¹) compared to +19% y/y last year. This compares to overall Black Friday online sales growth of +7.5% y/y, which was better than expected, although promotions drove sales with a deeper but tighter range of discounting of 17-28% (compared to 6-30% last year).

Amazon’s extended Black Friday and Cyber Monday holiday shopping event (11 days in total) delivered record sales, with over one billion items purchased, with “customers saving nearly 70% more on Amazon” versus last year.

Amazon’s extended Black Friday and Cyber Monday holiday shopping event (11 days in total) delivered record sales, with over one billion items purchased, with “customers saving nearly 70% more on Amazon” versus last year (i.e. high promotional activity). Amazon’s AWS re:Invent event was broadly encouraging, the company revealed its new Graviton chip (optimised for cloud workloads) and Q chatbot (an AI-powered chatbot for a range of business tasks) and emphasised the diversity of models/hardware available (offering an alternative to OpenAI).

Uber Technologies reported solid results with trip growth accelerating to +25% y/y and gross bookings growing +20% y/y cc driven by strength in both the mobility and food delivery businesses. Management issued guidance modestly above expectations, supported by a record number of monthly trips in October. Uber has made significant progress increasing profitability and looks set for inclusion into the S&P 500.

Trade Desk, an advertising technology provider, delivered top and bottom-line results ahead of expectations, but next quarter guidance was softer than anticipated, with management highlighting more cautious advertising spending in the first two weeks of October (notably from brands), followed by some stabilisation into early November.

In the software sector, Workday reported encouraging results and management nudged up their FY24 subscription revenue and operating margin guidance. FY25 subscription revenue growth guidance of 17-18% was in line with expectations, supported by strong backlog growth, and management expects to deliver operating margin expansion, which was a concern going into the print.

We increased our position in HubSpot after the company reported results ahead of market forecasts, with stronger than expected customer growth despite “choppy” and “challenging” macroeconomic conditions, which have “not got better, not got worse”. The company is benefiting from customers consolidating their spend on the HubSpot platform (>50% of the installed base now has three or more Hubs) and from customers looking for productivity gains from AI features instead of adding headcount.

Salesforce.com reported better than expected results after mixed reports from channel partners, benefiting from a reacceleration in Mulesoft’s data business given the need for better quality data for AI transformation and strength in the enterprise market (deals >$1m grew +80% y/y). Management noted that they “see a lot of green shoots” and they are gaining traction with the company’s AI products (17% of the Fortune 500 are now EinsteinGPT customers), while operating margin expansion continues to be ahead of expectations.

Snowflake’s results were stronger than anticipated, with product revenue up +34% y/y, benefiting from positive usage patterns by existing customers (nine of the top 10 customers grew sequentially) and new customer adds. Next quarter guidance was also ahead of expectations, supported by ongoing strength in October and November, with management highlighting a big renewal pipeline in the quarter.

In the cybersecurity space, Palo Alto Networks reported a strong demand environment, with a consistent rate of deal closures. However, billings were impacted by customers choosing to sign shorter deals to preserve cash in a higher interest rate environment. Management has held firm on pricing, refusing to discount longer-duration deals. CrowdStrike Holdings results were also solid, although there was a similar duration dynamic with billings. CyberArk Software cited a "firming of the macro environment" with improving close rates.

Tesla had its delivery event for its new Cybertruck, revealing the price will range from $61,000 to $100,000 (before tax credits and discounts) depending on the trim. While reservations (which cost just $100) have topped the two million mark, the production ramp is likely to be relatively slow given the complexity of the vehicle, however, with the ultimate target only 250,000 vehicles a year.

Outlook

Equity markets are still being led by macroeconomics and risk-free rates. After a significant tightening of US financial conditions between July and October, November represented the largest monthly easing for the past 40 years as 10-year US Treasury yields fell by 60bps. This supported risk assets including equities and put significant downward pressure on the US dollar and market volatility. Economic growth is expected to slow following a strong Q3 (US GDP +5.2%) but remain positive as inflation trends down and real disposable income continues to grow.

While absolute returns in 2023 have been strong, the 'Magnificent Seven' tech giants continue to dominate, creating a significant headwind for active managers. The recent exceptional returns reflect a depressed starting point in 2022 and relative earnings strength.

Given the recent sharp move lower in rates and futures markets implying a >50% chance of a Fed rate cut in March, we have seen early signs of broadening in the technology sector as small and mid-cap companies outperform. A period of mean reversion would not be unwarranted and has already presaged sharp upward moves in longer-duration groups such as unprofitable technology companies and growth software. This has been exacerbated by investor positioning given the degree to which large-cap technology companies have dominated sector and broader market returns in the year to date. However, given the speed of these moves, it would not be surprising to see a near-term consolidation, especially as investor sentiment has turned more positive, with the American Association of Individual Investors Bull Index recently reapproaching year-to-date highs and the ratio of bulls to bears at their highest level since early 2021.

While absolute returns in 2023 have been strong, it is worth noting that the ‘Magnificent Seven’ (Microsoft, NVIDIA, Amazon, Google, Apple, Tesla and Meta Platforms (Facebook)), have driven broader markets and continue to dominate global technology indices. The significant outperformance of this group relative to equal-weighted technology or smaller-cap technology indices has created a very significant headwind for the relative performance of active managers, especially those like us with a more growth-centric, off-benchmark investment style. While Magnificent Seven returns have been exceptional, this in part reflects a very depressed starting point following exceptionally poor performance in 2022 when the group fell c40%. In addition, much of their subsequent relative outperformance can be accounted for by relative earnings strength (as per recent research from Goldman Sachs). Finally, many of these stocks – particularly NVIDIA and Microsoft – are AI enablers and/or beneficiaries which also explains why they may remain among our largest positions.

A year after the launch of ChatGPT, the pace of current AI innovation is incredible and we feel more excited than ever about further continued progress in AI. In our view, we are at a unique moment in the evolution of the technology landscape, with generative AI as important, if not more, than the internet and the smartphone. In addition, the diffusion rate (how long it takes for the technology to become widely adopted) is likely to be far quicker than either of those earlier general purpose technologies (GPTs) as the latest AI tools are being released to billions of global users instantaneously. Within our own team, we have also begun using several generative AI-based software tools, as well as exploring ways to significantly enhance our existing screening and stock analysis using AI – an auspicious indicator for how disruptive this technology is likely to prove across myriad industries.

The recent high-profile debacle at OpenAI and the muted response to NVIDIA results, suggest we could see some profit-taking in the larger AI-exposed companies... we have little doubt that the AI-related productivity gains are likely to prove very significant and as such that we are in the early stages of a major new investment cycle.

Since it became clear that AI capability had begun to inflect, we also introduced what we call an ‘AI lens’ to our investment process (ensuring AI permeates across all our investment themes). This means we now consider how AI impacts every business in each portfolio and whether stocks are enablers or beneficiaries of AI. This raises the bar for investment ideas that do not fit into that framework, because of our conviction that AI represents the next general purpose technology; based on our definition, c80% of the Trust is invested in companies we believe are beneficiaries from or enablers of AI.

Near term, however, the recent high-profile debacle at OpenAI (i.e. the firing and rehiring of CEO Sam Altman) and the muted response to NVIDIA results (strong but in line with high expectations), suggest we could see some profit-taking in the larger AI-exposed companies. In addition, hawkish US lawmaker rhetoric suggests we will likely see further tightening of export rules of AI to China which may cause further volatility. Despite this, we have little doubt that the AI-related productivity gains are likely to prove very significant and as such that we are in the early stages of a major new investment cycle. In addition, no major global economy/government can afford to stifle domestic innovation and lose talent given the stakes at play in the global AI race now underway.

With the market and rates appearing more benign, we expect the pace of AI adoption to prove a key determinant of sector fortunes during 2024. While there could be setbacks or disappointments along the way, we remain AI maximalists. Although we expect robust growth from mega-cap technology stocks, we do not believe a repeat of “magnificent” performance is likely with returns more in line with hopefully strong underlying growth. Instead, we expect a broadening of technology stock leadership as it becomes clear AI is benefitting more companies. Following several challenging years for active managers, we are hopeful that we may be entering a more favourable period, with AI-driven growth likely to play into our strengths given our well-resourced team and growth-centric investment approach.

*not held

1. Constant currency reporting is an accounting technique used by companies to present financials year-over-year for comparative purposes without the effects of currency movements.