(By Louis Basenese) Talk about a whipsaw market!
As Bespoke Investment Group notes, "Over the last month, the major (U.S.) indices have basically rallied 4%, fallen 4%, rallied 4%, and then fallen 4%, putting them right back where they were exactly one month ago."
What gives? In one word, Europe!
Investors can't seem to look past the never-ending debt crisis and unfolding economic slowdown in the eurozone. Apparently, they're convinced that when Europe sneezes, the rest of the world is going to get a cold.
This is a clear perversion of reality. Remember, companies in the S&P 500 Index count on Europe for about $0.15 of every $1 in sales. So in the grand scheme of things, a European slowdown is akin to a flesh wound, not an amputation.
Nevertheless, investors still fear Europe. And the latest round of jitters resulted in a six-day rout, before U.S. stocks finally found some footing on Friday.
Instead of panicking along with the crowd, though, I'm holding firm to the belief that every crisis creates an opportunity.
And in the aftermath of the latest volatility, I'm increasingly convinced the technology sector is poised for a meaningful bounce.
Here's why…
Oversold and Unloved
If we look at the market breadth for the S&P 500 – specifically, the percentage of stocks trading above their 50-day moving averages – all appears normal. Even after the recent selloff.
Case in point: A total of 43% of stocks are trading above their moving averages, which is in line with historical averages, according to Bespoke.
If we look at the market breadth for the technology sector, however, we see an entirely different scenario.
Only 17% of technology stocks are trading above their 50-day moving averages. Why are technology investors stampeding for the exits? Because large tech companies have considerable exposure to Europe.
Take videogame maker, Electronic Arts (Nasdaq: EA), for instance. It relies on Europe for about 45% of sales, which I've noted before here. As a result, its shares have been brutalized, dropping almost 30% over the last three months, as fears over Europe spiked.
That being said, the technology sector as a whole is entirely oversold. Look at the chart again. Every time the breadth approaches such dismal levels, it bounces back. Sharply.
Care to bet it's going to be different this time? I'm not! Especially when you consider the extreme bearishness on the part of analysts…
Over the last month, they've slashed guidance for almost half of the technology companies in the S&P 1500 Index. Out of 266 companies, analysts reduced earnings estimates for 119 companies, resulting in a net revision ratio of -44.7%.
According to Bespoke's data, technology is one of the weakest sectors in terms of revisions, second only to the energy sector.
Now, the last time so much negativity surrounded the tech market was in February 2009! And we all know what happened starting the following month.
Bottom line: Everyone's betting against the technology sector, which is setting the stage for a classic contrarian rally. Or, as Humphrey B. Neill says, "When everybody thinks alike, everyone is likely wrong."
If I were you, I'd be on the hunt for small-cap technology companies that have been unfairly punished. Specifically, ones that are down more than 10% in price, with less than 20% sales exposure to Europe. They're likely to bounce back the most.
That's what I'm looking for now. Rest assured, I'll let you know if I come across any irresistible opportunities before the week is out. So stay tuned!
Ahead of the tape,
Louis Basenese