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Goldman Sachs: The market is overvalued but tech stocks should stay strong with 1 caveat

  • Tech stocks should continue to do better than the broader market provided "valuations are not excessive," strategist David Kostin says.
  • Goldman Sachs has buy ratings on Google-parent Alphabet, Apple and Amazon.
  • Kostin sees a "Goldilocks" scenario for economic growth and two more interest rate hikes this year.

Technology stocks should continue to do better than the broader market as investors remain on the hunt for "relatively scarce" growth potential — provided "valuations are not excessive," said the chief U.S. equity strategist at Goldman Sachs.

Wall Street continued to see cautious trading Tuesday. However, the Dow Jones industrial average, S&P 500 and Nasdaq were still close to their record high closes from Friday.

"Broadly speaking, the market can move a little bit higher. But from a tactical perspective, the market trades a little bit above where I would expect fair value is, closer to 2,400 and fading a little bit later this year," Goldman's David Kostin told "Squawk on the Street" on Tuesday. The S&P 500 closed modestly lower Monday at 2,436.10.

But tech stocks should remain strong going forward due to their potential for double-digit revenue growth, he said.

Here's the math, according to Kostin: "You're looking at 2 percent real GDP growth environment. Two percent inflation. That means your top line of revenue growth for most companies is growing around 4 percent, maybe with 1 percent accretion or so for buybacks. You're looking at about a 5 percent environment. That's consistent with basically a modestly increasing market as you look into 2018 and 2019."

By contrast, he said, "If you have a group of stocks that's going to grow 10, 15, 20 percent in terms of revenues — Google, Apple [and] Amazon where they trade at three, four, five times enterprise value to sales — that's the sweet spot to look for."

Goldman Sachs has buy ratings on Google-parent Alphabet, Apple and Amazon.

Despite being somewhat cautious on the broader market, Kostin sees a pretty good environment for investing in stocks against a backdrop of a "Goldilocks" scenario for economic growth, not too hot and not too cold. He also predicted an interest rate increase at the Federal Reserve's policy meeting next week and probably another hike in December.

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