Does The Digital Security Theme Have More Upside?

Our theme of Cyber Security Stocks has gained about 25% this year, underperforming the Nasdaq-100, which remains up by close to 38% over the same period. While the Nasdaq-100 has benefited from the enthusiasm surrounding generative AI following the launch of ChatGPT, cybersecurity stocks have lagged a bit. That being said, there could be a couple of reasons to look at this theme at the current juncture.

As the world becomes more reliant on interconnected computer systems, cyber attacks have the potential to disrupt economic activity, sabotage critical infrastructure, and compromise the security of countries. This is making digital security a more important investment priority for governments and businesses. There have been a series of high-profile cyberattacks on businesses in recent quarters, including a notable attack on pay TV major Dish Networks. Russia could potentially carry out more cyber attacks on Western targets as its military offensive in Ukraine faces big challenges. Moreover, ransomware attacks have also risen over the past year. This should translate into stable demand for cyber security.

Cybersecurity players are also seeing increasing interest as acquisition targets. Larger tech companies, private equity funds, and defense majors have been acquiring players in this sector, given their somewhat attractive valuations, which are down from Covid-19 highs. For example, over the last year or so, private equity major Thoma Bravo acquired multiple cybersecurity players including Ping Identity, Sailpoint, ForgeRock, Bottomline Technologies, and Coupa Software. Last month French defense contractor Thales entered into an agreement to acquire Australian cybersecurity firm Tesserent. We could see more similar deals in this sector, potentially helping stocks in our theme. We also believe that the cybersecurity theme should prove more resilient in an increasingly uncertain macroeconomic environment.

Within our theme, Okta
OKTA
has been the worst performer, with its stock declining by almost 1% year-to-date. On the other side, Palo Alto Networks
PANW
has been the strongest performer, with its stock up by over 78% over the last 12 months.

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