Technology stocks have been the best-performing US sector in 2019, propelling relative valuations to a post-financial-crisis high. The S&P 500 tech sector has gained 25.7% so far this year, versus the Nasdaq Composite's 17.9% and the overall S&P 500's 14.5%.

But we believe this outperformance is at risk:

* The tech sector is among the most negatively impacted by both the direct and indirect effects of higher tariffs. The IT sector has a one-year beta to the S&P of 1.36, the highest of any sector. It also has a 39% correlation to a China-exposed basket, second only to industrial firms.

* Prior rounds of tariffs targeted primarily intermediate goods. However, the final tranche of imports set to be subject to tariffs includes finished consumer goods such as smartphones and consumer electronics that were previously untouched. The segments of the tech sector that would be most directly impacted by these new tariffs (tech hardware and semiconductors) make up nearly 45% of the sector by market value.

* Valuations for the sector are elevated and look quite vulnerable if results disappoint. Despite declining net income growth in recent quarters, the tech sector has been the best performing sector this year. Investors have looked through some of the near-term fundamental issues plaguing the sector, particularly within semiconductors and smartphones, and have been pricing in a rebound. However, this expectation for a rebound appears increasingly at risk given the uncertain macro environment.

* At a global level the IT sector’s 12-month forward P/E has risen to the high end of its 25-year historical range, excluding the dotcom bubble in 1998–2003.

Given this rising uncertainty, we have shifted our equity sector strategy from a modest pro-cyclical bias to a more defensive stance. As part of this shift, we recently downgraded the technology sector to moderate underweight from neutral.