MW Should you buy the dip in tech? Veterans of the dot-com era share 5 ways to find winners.

By Laila Maidan

Rob Arnott and other market pros offer their best tips for finding quality names while the stock market is in red

The technology sector is bleeding red. The "Magnificent Seven" collectively lost $1.55 trillion in market capitalization this week - their largest weekly market-cap decline on record. The rest of the U.S. stock market was right there with them, with $5.6 trillion in value wiped this week.

Rob Arnott, the chairman of Research Affiliates, is having flashbacks as he recalls Microsoft Corp.'s $(MSFT)$ turn for the worst in 2000. The software provider was a tech darling during the dot-com era, but its pivot lower dragged down the rest of tech. It took 14 years for the stock to recover.

Those who lived through the dot-com bust are recounting it now as things begin to look really grim. Nvidia Corp. $(NVDA)$ largely led the stock market's gains throughout 2024 as investors cheered the potential of artificial intelligence. But the stock has since fallen by over 36% since hitting its closing high in January.

Whether the two eras can be stacked against each other depends on whom you ask.

Ken Mahoney, who was executing client trades in 1999, says times are different. Back in the dot-com era, companies that weren't ready for prime time were tagging ".com" onto their names and going public. Meanwhile, investment bankers were throwing stuff at the wall to see what stuck, and clients who were traditionally buyers of certificates of deposit were cashing out to bet on tech.

"Speculation fever was crazy," Mahoney said. "I'd have clients call me and say, 'My son told me to buy Yoo-hoo'. I was like, 'What are you talking about? You mean Yahoo?"

Despite the doomsday feeling, today's Big Tech money is mainly in blue-chip stocks with rich fundamentals. The issue, however, is that prior to tech's recent downturn, too much excitement had been priced into the Magnificent Seven, and things began to look really frothy last year.

For those with a high risk tolerance who don't think we're at the start of a catastrophe, it may be tempting to buy the current dip now that stocks look cheaper. But investors shouldn't do so indiscriminately.

See also: Individual investors made a record $4.7 billion in stock purchases Thursday as new tariffs pummeled markets

Below are a few tips from market pros on how to value tech stocks. However, this should be prefaced with one big caveat, which is that the current macroeconomic environment can trump (no pun intended) any fundamentals that have traditionally been used to value stocks. In other words, proceed at your own risk.

Strategies for finding tech winners

While a good investing strategy uses qualitative and quantitative approaches, below are some simple but favored back-of-the-envelope valuations for bagging quality tech stocks.

Mahoney likes to focus on forward price-to-earnings multiples - with an eye for tickers that are compressing into lower multiples due to, say, headline risks like trade wars, while earnings are still rising. In other words, the company's fundamentals are still strong even if sentiment is negative.

Arnott noted that any single measure will have a peculiarity. But if he had to pick one, he'd go with price-to-sales ratio to find companies with large sales and skinny profit margins. It sounds counterintuitive, but Arnott's rule of thumb is that disrupters get disrupted. And those with wide profit margins are more likely to attract competition.

Mark Malek, chief investment officer at Siebert Financial, says if you're going for tech, it's all about growth because that's where everyone looks. That said, even if a stock has rich growth in earnings per share, the rate at which it's growing must be accelerating rather than stagnating or decelerating. Some tech companies can still be solid, but if they had a big pop in earnings, the growth rate from that high point is hard to maintain and the market will discount that negatively, he noted.

Julie Biel got to Wall Street shortly after the bust in 2004. Today, she's a portfolio manager at Kayne Anderson Rudnick, a firm with $65 billion in assets under management, running small-cap and midcap growth strategy with high tech exposure. This corner of the market, particularly software stocks, can be more challenging to value because their accounting practices can differ.

One way Biel evens out the playing field between peers is by focusing on their free-cash-flow yields. The metric can be used like a P/E multiple by taking the stock price and dividing it by the free cash flow per share to compare it against other companies.

"The reason why we do it with free cash flow is because it's harder to monkey around with your cash-flow statement, because cash is settled," Biel said.

One caveat is it doesn't include stock compensation, which can be a problem since software companies tend to heavily rely on that tactic in a way that's dilutive. Biel subtracts compensation as a workaround.

Fundamentalists aren't the only players in the market. Jay Woods, chief global strategist at Freedom Capital Markets, turns to price action to find the best in class. He looks at relative strength between stocks and sectors to find the outperformers on a relative percentage basis. The positive momentum could reveal pockets of strength and companies with a high probability of continued gains.

"There's always a story behind why things are underperforming or outperforming, but price tells me the story first," said Woods. "Then I look for the underlying reasons, and put that narrative to my story."

For example, the cybersecurity sector has outperformed wider tech, and it's especially trounced the hardware sector. Sector ETFs like the Amplify Cybersecurity ETF HACK and Global X Cybersecurity ETF BUG have significantly outperformed the S&P 500's SPX tech names and Nvidia - an indication that cybersecurity could be benefiting from geopolitical tensions and a ramp-up in defense, while hardware stocks get hit by economic slowdown, tariff and protectionism fears.

-Laila Maidan

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April 05, 2025 08:00 ET (12:00 GMT)

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