Scottish Mortgage, SMT – Cheap Tech Trust Or Overvalued Sector?

Scottish Mortgage Investment Trust (LON: SMT) is nothing to do with either Scotland or mortgages currently – it is an investment trust though. The portfolio is heavy in the big tech stocks and as such has had a startling run over the past couple of years. It has also suffered these past few months as the heat has gone out of that sector – actually, as share prices have deflated.

The two questions become whether Scottish Mortgage is a good way to gain exposure to the sector, that answer being probably yes. The second is whether this is a sector we want to be in, that answer being more complex.

For that first question, Scottish Mortgage currently trades at an about 8.5% discount to net asset value. Given how successfully the trust rode the tech boom the managers clearly have at least some idea what they’re doing. So, buying the assets at a discount through the wrapper has its attractions.

On the other hand, the whole tech sector is looking a little weak. Tesla, NIO, Nvidia, Moderna, they’re all significant holdings within the trust. For varied reasons, they’re all rather coming off the boil as well.

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In fact, given the macroeconomic background, we’d rather expect the tech sector to lose ground relative to more traditional business sectors. That combination of inflation and higher interest rates just does make companies aiming at jam tomorrow worth less relative to those making it today, with strongly positive current cash flows and paying good dividends. That’s just the way the time value of money does actually work.

Note this effect doesn’t tell us the actual level or the market, nor of any individual stock. It does though say that the one sector may well, or even should, change in valuation compared to the other.

That then means that when evaluating Scottish Mortgage we need to have a view on the tech sector itself. SMT, with that discount to asset value, may well be an excellent way to play any rise in the sector but it’s that rise that we’ve got to try and decide upon. And that, well, that’s one of those big questions, isn’t it?

If inflation and interest rates are a passing phase then we can expect that valuation against more traditional sectors to reverse reasonably shortly. That makes tech shares at their current levels perhaps a bargain. Buying into a bargain at the Scottish Mortgage discount to NAV is definitely attractive. If we think that inflation has become, or is going to become, embedded then the calculation goes into reverse. Rather than tech stocks we might want to be in the traditional defensives of FMCG, utilities and sin stocks.

Scottish Mortgage is, that is, one of those stocks where we probably need to take a macroeconomic view of the sector first, before then deciding upon which way to invest – or not – in any specific actor in the sector.