Tech stock shares trading at multiples ‘like utilities in Ohio’: MFS

“The business cycle is not running out of steam,” James Swanson, chief investment strategist of MFS Investment Management, said in a teleconference today.

Despite the 7% drop in the S&P 500 over the past six weeks, Mr. Swanson said the business cycle is the key to the stock market and that conditions in the corporate sector continue to improve.

“The profit recovery has been dramatic since the housing and Lehman Brothers [Holdings Inc.] crisis in 2008,” Mr. Swanson said. “Corporate cash flow of the S&P 500 has far surpassed its previous peak, and profits have [positively] surprised Wall Street for five quarters in a row.”

According to Mr. Swanson, the average business cycle since 1945 has run for 58 months and the average gain in the stock market after a recession has been 188%. To date, the U.S. market is 22 months into the business cycle and has risen 94%. “It’s premature to say this cycle is over,” he said.

He cited several reasons why he believes the cycle is not yet done.

First off, he said, corporate profits will continue to grow. Labor-related costs account for about 70% of the overall costs for S&P 500 companies, and unit labor costs continue to be subdued. Historically, the economy doesn’t start to see wage inflation until unemployment gets below 7%, Mr. Swanson said.

What’s more, with the capacity utilization rate for S&P companies at about 75%, profit margins will have to expand for a couple of years before companies approach full capacity.

In addition, Mr. Swanson said the U.S. consumer has proved remarkably resilient. With continued expected wage growth of between 2% to 3%, that should continue.

He also noted that the easy-money environment will continue to favor corporations. While QE2 is set to end, interest rates remain low.

What’s more, he noted that the middle classes in emerging markets will continue to grow, and U.S. companies will continue to benefit. The expected increase in the Chinese middle class alone between 2000 and 2020 is expected to be more than 300 million people.
Mr. Swanson said that in the middle of the business cycle, investors tend to get picky and move into quality sectors and stocks. His two favorite sectors are currently technology and health care.

“There isn’t a long history with technology stocks, but we’re now trading at historically low p/e’s,” Mr. Swanson said. “We have technology companies trading at multiples like utilities in Ohio.”

The two biggest threats to the continuation of the economic expansion are rising oil prices and inflation. And on both fronts, Mr. Swanson sees little risk at this time. Wage costs are still low and energy prices have fallen back from spikes earlier this year. Profits, said Mr. Swanson, will drive the market.

“Even if we thought GDP growth will be closer to 2% than 4%, companies can still grow their profits,” he said.

MFS is the 16th largest mutual fund family in the U.S. managing 74 funds and a total of $244 billion in assets as of May 31, 2011.