Everything you need to know about investing in technology

Everything you need to know about investing in technology

The ASX information technology sector includes everything from major companies that everyone knows to big and small players that operate largely behind the scenes. The tech sector is also home to start-ups, emerging companies of all sizes, and billion-dollar household brands.

In a broad sense, the ASX technology sector comprises companies involved in researching, creating, and distributing technology-based goods or services. That’s everything from computers to software and televisions to websites. 

Hardware describes a physical technology device, such as a computer, television, or smartphone. Software is the computer codes, programs, and platforms that make those physical devices work.

A corporate female wearing glasses looks intently at a virtual reality screen with shapes and lights representing Block shares going up today
Image source: Getty Images

About ASX technology shares

ASX technology shares offer investors a lot of opportunities. In fact, even though ASX tech shares have had a rough year, the sector has comfortably outperformed (including dividend returns) the S&P/ASX 200 Index (ASX: XJO) over the past five years on average (as of 30 April, 2022), as you can see in this table below:

all tech graph
Chart: Author’s own. Data source: S&P Global

These solid historical returns, however, do not mean the technology sector is without risks. 

Technology changes rapidly, and one-time leaders can quickly fall behind or go out of business. Remember Kodak? Remember Blockbuster Video? These companies were once at the forefront of technology within their industries, only to be brutally supplanted and made redundant by technological change.

In addition, promising emerging companies may make a huge splash initially, only to quickly fade out.

Technology is an exciting space that encompasses trends such as social media, artificial intelligence (AI), smartphones, blockchain, self-driving technologies, software as a service (SaaS), the Internet of Things (IoT), streaming media services, and more. It’s an area full of innovation and opportunity but also some risk.

Tech can be volatile 

On the ASX, the tech sector is best represented by the S&P/ASX All Technology Index (ASX: XTX), a relatively new index that tracks not just the information technology sector but also consumer electronics, interactive media and services, and healthcare technology. 

You've undoubtedly heard about the spectacular returns that tech shares can bring to a portfolio in good times when we’re in a bull market, as seen in 2021. But things can change. 

As we all know, 2020 was defined by one of the most volatile periods in global stock market history due to a black swan event that led to a short but extremely sharp bear market

In the throes of the COVID-19 crash, tech shares were hammered far harder than the broader market. This was primarily due to the relatively expensive nature of the sector for investors relying on traditional methods of stock evaluation, such as the price-to-earnings (P/E) ratio

In times of panic, many investors flock to safety and move their investments to large-cap shares with long-standing track records for delivering profits. 

Technology companies also skew younger than average, and many are yet to make a profit. This makes them susceptible to volatility, especially in unprecedented times or when investors feel nervous. 

Tech shares can often underperform the broader market when significant selling pressure exists. Investors who are interested in tech shares should keep this in mind. 

However, such falls can be reversed extremely quickly. Looking back at what happened immediately after the market sell-off bottomed in March 2020, we saw a steep recovery for tech stocks, with a massive 39% gain in just six months for the ASX All Technology Index. 

Just as quickly, we’ve also seen a sharp deterioration in 2022 for ASX tech shares as the threat of rising inflation and interest rates spooks investors.

These rapid reversals of fortune for the tech industry have largely been caused by changing clarities around which industries could weather the storm of the coronavirus pandemic and, subsequently, a world of higher interest rates.

In such a unique time of threat, technology will historically be seen as one of the industries that benefitted from the forced changes in our day-to-day lives.

The technology sector can boom and bust. The same is true of individual companies and market segments within the space because it is a rapidly evolving industry with advancements made in short timeframes. 

Sometimes, a new technology product or service might appear to be ‘the next big thing’ – think 3D television or 3D printing just a few years ago – only to fail spectacularly in the marketplace due to a superseder.

Areas for investment 

Technology is a wide-ranging term. It has expanded far beyond what once would have been considered the typical tech shares, like Apple Inc or Microsoft Corporation.

Tech companies operate in a variety of market segments that are all part of the broader technology sector, including but not limited to:

Artificial intelligence (AI) 

This is where computers perform tasks that might have traditionally required a human brain. AI also encompasses deep learning and machine learning. 

Deep learning involves scientists building computer models using data inspired by the human brain's structure and function that reproduces our ability to learn. 

Machine learning, by contrast, is a type of AI where computers learn without being specifically programmed to do so. You’re probably familiar with AI systems like Siri from Apple or Alexa from Amazon.com Inc, but you might not be aware that systems like these are fuelled by the valuable data that ASX company Appen Ltd (ASX: APX) provides.

Payments 

The area of payments has attracted possibly the most innovation over the past decade. As cash and cheques become increasingly unpopular, a raft of ASX companies have tried to make their mark on a future without cash. Buy now, pay later (BNPL) pioneer Afterpay was the most well-known ASX company in this space before US payments giant Block Inc (ASX: SQ2) acquired it in 2022. Other ASX BNPL providers include Zip Co Ltd (ASX: ZIP), Pushpay Holdings Ltd (ASX: PPH), and Splitit Ltd (ASX: SPT).

Blockchain 

Blockchain has received a lot of publicity because it’s the technology behind Bitcoin (CRYPTO: BTC) and other virtual currencies. Many investors scorned it following the ‘Bitcoin bubble’ of 2017.

However, blockchain has many other potential applications. The concept of a blockchain ‘ledger’ – a single, decentralised, and incorruptible transactional record – might be of enormous value in the future. 

Perhaps it's no surprise that we continue to see Bitcoin and other cryptocurrencies regain favour with investors in more recent times, despite their trademark volatility.

Self-driving technologies 

This is not an area in which many ASX companies specialise. But US companies like Alphabet Inc and subsidiary Waymo, Tesla Inc, Uber Technologies Inc, and most major car manufacturers are working on creating self-driving cars. 

Some driver-assist technology has already come onto the market, and it’s possible that self-driving cabs, and even trucks, will be in limited use reasonably soon.

Computers and software  

These companies make the laptops, desktops, and tablets as well as the software that runs them. This segment also includes component players but is dominated by US giants like Intel Corporation, which makes the chips and processors that power computers, along with bigger, well-known brands such as Apple and Microsoft.

Xero Limited (ASX: XRO) is a nice contrast. It is a software company that markets its cloud-based accounting solutions in a Software-as-a-Service (SaaS) subscription model.

The internet 

Typically, you might think of US companies like Alphabet’s Google, Amazon, eBay Inc, Twitter Inc, and Meta Platforms Inc if someone mentioned ‘internet companies’. But the ASX has a few shining stars, including Carsales.com Ltd (ASX: CAR) and REA Group Limited (ASX: REA)

Most of these players are at least partially supported by advertising revenue, though some sell subscriptions and monetise in other ways.

The Internet of Things (IoT) 

The IoT is the network of devices connected to each other and ‘the cloud’ – the public internet that allows for links between far-flung systems. 

It’s involved in everything from a smart thermostat that can automatically adjust the temperature in your home to complex medical equipment that can order its own repairs. The agricultural industry is also benefitting from the rise of IoT. ‘Smart sensors’ are being used to detect soil conditions, and automated machinery can treat crops based on those soil conditions.

Altium Limited (ASX: ALU) is the ASX share that perhaps stands to benefit most from the IoT. Altium makes software that assists in designing and manufacturing electronic circuit boards, which are components required in every internet-enabled electronic device.

Streaming media 

The first name that might come to mind is US behemoth Netflix Inc, perhaps followed by Amazon Prime or, more recently, Disney+ from Walt Disney Co.

Here in Australia, we have our homegrown streaming service Stan, owned by Nine Entertainment Co Holdings Ltd (ASX: NEC). Stan and its American compatriots are entertainment companies, but they are also technology companies that have created their own digital infrastructure. Stan purchases and creates content for its streaming platform and also develops and maintains the digital platform.

Cloud computing  

‘The cloud’ is a familiar term given to computerised storage infrastructure that allows information and services to be accessed by devices from anywhere. The cloud enables companies (and individuals) to use services that are not resident in their devices. NextDC Ltd (ASX: NXT) and Megaport Ltd (ASX: MP1) are major ASX cloud service companies.

Cybersecurity 

Cybersecurity is about ensuring information is only accessible to the people who are supposed to see it. Keeping information secure has become a growing industry with data now housed in the cloud, on our devices, and even in the chips on our credit cards. 

There are no major cybersecurity players on the ASX, but there is a cybersecurity-themed exchange-traded fund (ETF) with an unforgettable ticker available – the BetaShares Global Cybersecurity ETF (ASX: HACK). More on ETFs later.

Technology is everywhere 

You can invest in technology without buying a pure information technology sector stock. Technology has bled into nearly all areas of life, so you could argue that many non-tech companies have morphed into partial-tech shares because so many are using technology to grow. 

For example, Coles Group Ltd (ASX: COL) has a huge retail shopfront presence in Australia, but it is also investing billions into supply chain automation and logistical technology. The supermarket giant is using innovation to lower costs and increase responsiveness to customer needs.

ASX blue-chip stalwart Commonwealth Bank of Australia (ASX: CBA) has moved into the payments space with its Klarna partnership.

Domino’s Pizza Enterprises Ltd (ASX: DMP) is trialling drone technology to deliver pizzas to its customers faster and more cheaply.

A look at technology ETFs 

An ETF is a fund that invests in multiple shares but is sold like a single share on the ASX. 

Most ETFs track a specific index, so they provide a way to own an entire market sector without purchasing every stock individually. 

For example, you might buy an ETF comprising all 200 shares in the ASX 200, or a smaller ETF tracking biotech companies.

Like a mutual fund, an ETF has an expense ratio, which is the percentage of the fund’s assets used to cover management, advertising, and administrative fees. In a broad sense, lower is better, but you should look at overall returns, not just the expense ratio when considering an ETF.

There are several tech ETFs available on the ASX. We’ve already discussed HACK, but other examples include the Morningstar Global Technology ETF (ASX: TECH), which tracks a global basket of large-cap tech shares such as Netflix and Alphabet. 

There’s also the BetaShares S&P/ASX Australian Technology ETF (ASX: ATEC), which simply tracks every share in the ASX All Technology Index. 

The Robo Global Robotics and Automation ETF (ASX: ROBO) follows a basket of AI and robotics-focused companies. 

There are plenty of choices out there!

What metrics matter most? 

Technology companies typically fall into two baskets – developing brands and mature companies. 

Mature companies like Nine Entertainment or REA Group still have to innovate to survive in the long term, but they have a base of products that have become entrenched in the market. This provides long-term revenue stability, allowing them to develop their next products without worrying about how to keep the lights on.

REA Group, for example, has leveraged the vast amount of property data collected from its customer base to expand into property valuation and mortgage broking. 

A mature technology company is valued partly through traditional methods, including profit, revenue growth, and overall sales. Of course, because technology is an ever-changing space, even a company like REA can see its share price rise or fall based on an unproven product or even an announcement of new development.

Developing brands such as Zip face a different challenge. These are companies valued mainly on their sales growth and future potential, not current profit. That could be why we’ve seen such wild swings in the valuations of companies like Zip in recent months – rising interest rates make it more difficult for investors to put a valuation on Zip’s future.

As such, developing brands generally have more upside (at least at first), but they come with significant risk.

Who should invest in technology? 

Technology shares offer opportunities for novice and experienced investors. Companies such as Xero and even smaller players like Pushpay offer you the chance to buy into brands that have become an integral part of your life. 

It’s also an investment space where the average person can jump on an emerging technology they have experienced and believe will become part of the future.

Technology shares offer opportunities for both growth and income investors, who can choose from several mature, established companies. Of course, this is a sector that’s rapidly developing, so there are usually some growth prospects even in mature companies.

Trying to get a clear picture of the value of a technology share can be difficult. The products and revenue streams can be more complex than a consumer goods company like Woolworths Group Ltd (ASX: WOW), which sells brands and products most of us are familiar with. 

Companies can also be valued using several methods, including earnings-based valuations, revenue-based valuations, cash flow-based valuations, equity-based valuations, and member-based valuations.

Growth investors might like… 

Buying shares in companies expected to grow a lot in the future is known as growth investing. You often pay a premium but these shares are valued on what the company might achieve in the future rather than what it has achieved so far. Growth stocks often receive a great deal of analyst attention, sometimes belying the actual size of the company.

Of course, buying in early on a growth stock can bring tremendous returns. An outstanding case study in recent history is Afterpay, which priced its initial public offering (IPO) at $1 in May 2016. It was a volatile ride (to say the least) but by February 2021, Afterpay shares hit a peak of just over $160, making this company a ‘160-bagger’ in just five years. Afterpay was acquired by Block for $39 billion in Australia’s biggest ever corporate deal in 2022.  

Another interesting case study is Xero. This company has been listed on the ASX since 2012 and has been in full ‘growth’ mode ever since. It wasn’t until 2019 that it started to turn a profit. 

Between 2012 and October 2021, the Xero share price rose from about $4.50 to a record high of $157.99. The fact that investors were willing to assign a P/E ratio above 500 to Xero shows their faith in the company’s growth runway, despite its delayed profitability.

This is why you should look at both valuation and market potential when deciding whether to invest in one of these companies. 

There’s no single way to do this but consider forward earnings projections, the earnings growth rate for calculating the forward P/E ratio, and the price-to-earnings-to-growth (PEG) ratio. 

For growth companies, pay attention to free cash flow and debt to gain a better picture of the business's overall financial health.

Dividend investors might like… 

Here in Australia, the tech sector is not well known for its dividend strength. This is because we have more developing brands and fewer established mature tech companies. It makes more sense in many cases for younger technology companies to invest free cash in research and development instead of distributing dividends.

Over in the US, established tech companies like Apple and Microsoft have started paying healthy annual dividends to their investors.

Still, there are exceptions. ASX stock market services provider Computershare Limited (ASX: CPU) was founded in 1978 and listed on the ASX in 1994. It began paying dividends in 2019, and in 2022 it is offering an annual dividend yield of 2.05%. 

Top technology shares

As noted, there are only a few pure-play technology stocks on the ASX. Many companies in the ASX Information Technology sector combine technology with other services. For example, Xero is also a services company and Zip Co is also a financial or payments company.  

Here is a summary of some of the big names you will likely come across in your research of ASX technology shares.

WiseTech Global Ltd (ASX: WTC)

This company is a member of what used to be the ASX tech scene’s hottest club – the WAAAXers. Along with Appen, Altium, Afterpay, and Xero, the WAAAX shares were described as Australia’s answer to the US FAANG group (Facebook (now Meta Platforms), Apple, Amazon, Netflix, and Google (whose parent company is Alphabet).

WiseTech is a logistics specialist. Its flagship software CargoWise is designed as an ‘all solution’ platform that assists global logistics operations such as customs and trade. 

Altium Limited (ASX: ALU)

As discussed earlier, Altium’s self-titled ‘Altium Designer’ software aims to assist electrical engineers in designing and producing electronic circuit boards. 

It’s a true cloud-based SaaS company, with the use of Altium Designer restricted to a pay-per-month subscription model over the cloud. 

This mirrors the successful strategy of US-based Adobe Inc. Altium has already built a decent chunk of market share in this extremely niche area. 

Printed circuit boards fuel the modern innovation cycle. Every new electronic device designed anywhere in the world will likely require a unique printed circuit board. 

All of the ‘future trends’ that we have discussed today – AI, self-driving, the IoT, and so on – lean on printed circuit boards as a foundation upon which to build. 

Appen Ltd (ASX: APX)

Our next share is Appen, the aforementioned dataset provider. 

Appen produces research and data used for machine learning and AI. The company is a global leader in developing these human-annotated datasets, which other tech companies use to help their machines learn better from humans.

Ever wondered how Apple’s Siri, Amazon’s Alexa or Microsoft’s Cortana went from barely understanding speech a few years ago to now being able to have a full, semi-normal conversation? Well, it’s partly because of the work Appen does. 

The trend towards voice-assisted software is growing – it seems every device can talk to us these days – and it isn’t too difficult to conceive of a world where everything from your car to your refrigerator can hold a conversation with you. 

Xero Limited (ASX: XRO)

Next up is tech stock Xero, another SaaS giant of the ASX, which offers online accounting software services to small and medium-sized businesses.

Xero was born after founder Rod Drury noticed how difficult it was for small businesses to do their books – and how much of a dreaded task this was for owners.

At its core, Xero is a New Zealand company, listing in Auckland in 2007 and on the ASX in 2012. Since then, the company has become an ASX tech heavyweight.

Xero has a seemingly endless runway in front of it. Many countries are even pushing to make it mandatory for businesses to manage their bookkeeping and tax obligations through online channels like Xero.

Carsales.com Ltd (ASX: CAR)

Online classifieds giant Carsales is another Aussie tech company that has come to dominate its market and is now one of the leading automotive classifieds companies in the world. 

It’s also one of those rare stocks with a name that tells you precisely what the company does! 

The company’s flagship website (you guessed it) carsales.com.au is Australia’s largest car sales marketplace. Customers can buy new or used cars and seamlessly sell their own vehicles.

The company also owns a large range of other online marketplaces, including boatsales.com.au, trucksales.com.au, bikesales.com.au, constructionsales.com.au, caravancampingsales.com.au, and farmmachinerysales.com.au.

This company benefits enormously from its ‘network effect’. As Carsales grows its presence, it attracts more buyers to the site. As Carsales increasingly becomes the ‘go-to’ marketplace for car sellers to find buyers, they’re more likely to choose Carsales to help with the sale.  

Pushpay Holdings Ltd (ASX: PPH)

Pushpay is another tech company in the payments space, but it’s a very different beast.

The trend toward a cashless society might bring many benefits to consumers, but it is not without some disadvantages. Just think of how many charities, street vendors, and disadvantaged people rely on small cash payments in their day-to-day lives – something at risk as more people leave their cash at home or in the bank. 

Pushpay has developed a ‘donor management system’ that addresses this trend. It allows the faith-based community and non-profit organisations to receive and manage digital donations. It aims to be the modern equivalent to the old ‘hat being passed around the church’. 

The transition toward a cashless society accelerated during the coronavirus pandemic. This gave Pushpay a powerful tailwind, making it another ASX tech share that could have a lot of future potential.

Kogan.com Ltd (ASX: KGN)

Often described as Australia’s answer to Amazon, Kogan is named after its eccentric but brilliant CEO, Ruslan Kogan, and is now one of Australia’s largest online marketplaces. 

Initially, it stuck to the electronics side of things, selling TVs, computer accessories, and mobile phones. Its low-cost business model enabled wild success, and it now offers everything from superannuation services to credit cards and electricity provision. 

Kogan has withstood strong competition, going up against everything from eBay and Amazon to Gumtree and the bevy of Aussie retailers with their own online shopping platforms. 

Last updated June 2022. John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool's board of directors. Motley Fool contributor Sebastian Bowen owns Adobe Inc., Alphabet (A shares), Amazon, Apple, Bitcoin, IBM, Intel, Kogan.com ltd, Meta Platforms, Inc., Microsoft, Netflix, Nvidia, Tesla, and Walt Disney. The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns and has recommended Alphabet (A shares), Altium, Amazon, Appen Ltd, Apple, BETA CYBER ETF UNITS, Bitcoin, ETFS Morningstar Global Technology ETF, Intel, Kogan.com ltd, MEGAPORT FPO, Meta Platforms, Inc., Microsoft, Netflix, Nvidia, PUSHPAY FPO NZX, Tesla, Twitter, Walt Disney, WiseTech Global, Xero, and ZIPCOLTD FPO. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has recommended Adobe Inc., Alphabet (C shares), Uber Technologies, and eBay and has recommended the following options: long January 2023 $57.50 calls on Intel, long January 2024 $145 calls on Walt Disney, long March 2023 $120 calls on Apple, short April 2022 $62.50 calls on eBay, short January 2023 $57.50 puts on Intel, short January 2024 $155 calls on Walt Disney, and short March 2023 $130 calls on Apple. The Motley Fool Australia owns and has recommended BETA CYBER ETF UNITS, Bitcoin, COLESGROUP DEF SET, Kogan.com ltd, PUSHPAY FPO NZX, Tesla, WiseTech Global, and Xero. The Motley Fool Australia has recommended Adobe Inc., Alphabet (A shares), Alphabet (C shares), Amazon, Apple, Dominos Pizza Enterprises Limited, MEGAPORT FPO, Meta Platforms, Inc., Netflix, Nvidia, REA Group Limited, Walt Disney, and carsales.com Limited. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

Learn More About Investing with The Motley Fool

Interested in learning more about investing? Then be sure to browse our "Investing Basics" knowledge hub, which we've created to help more people learn about the wonders of investing. It's just our small way of helping make the world Smarter, Happier and Richer.