Remember tech stocks? They did well while everyone else panicked
Science is filled with mysteries. Why don't woodpeckers get headaches? Why do shower curtains billow inward? Can you keep score in baseball with imaginary numbers?
But the biggest scientific mystery this year is why science and technology stocks didn't collapse when the rest of the financial world was reeling. Tech-stock tumbles, at least in times of economic uncertainty, were as predictable as monsters at mad scientists' conventions.
But tech stocks didn't implode this year, and for a good reason: Many of them were plenty cheap already, relative to earnings. What's more, many of the biggest technology stocks have good earnings, broad exposure to international markets and buckets of cash on their balance sheets. Those factors remain in place, which is why it still might be a good time to invest in a tech fund.
The scars of the 2000-2002 tech-stock meltdown still linger in many investors' minds. Tech stocks sold for astronomical prices, relative to earnings, in large part because of overblown claims about the future of the Internet. "Folks still feel somewhat skeptical of Internet-related issues because of the bubble," says Robert Straus, chief investment officer for the Icon funds.
For that reason, some technology giants are now selling at extremely reasonable prices, Straus says. Icon tries to value a company's intrinsic value - an estimate of the company's true price, given its earnings, current interest rates and several other factors. By his reckoning, tech is cheap. "We see names like IBM, Hewlett-Packard and Dell selling at 10 percent to 20 percent discounts from their intrinsic value," Straus says.
And, in fact, the Internet has lived up to much of the hype associated with it back in 1999.
"It just took seven years instead of one," says Walter Price, co-manager of Allianz RCM Technology fund.
Video on the Internet, for example, is enjoying explosive growth. But video requires lots of bandwidth, far more than what's needed for surfing the Web.
One of the biggest beneficiaries of the huge demand for bandwidth is Cisco Systems, which makes many of the devices that make the Internet possible. The stock has soared about 40 percent the past 12 months.
Demand for more bandwidth isn't peculiar to the United States. Cisco is taking advantage of the huge push overseas, particularly in emerging markets, to build Internet infrastructure. "Countries in South America and the Middle East have huge resources and want to bring the population into the 21st century," Price says. "As a result, Cisco walks away with hundreds of millions of dollars' worth of contracts."
Strong international sales are one reason tech stocks weren't short-circuited when recession fears started upsetting the U.S. stock market. Many big technology companies derive 30 percent to 60 percent of their sales abroad, notes Tara Hedlund, co-manager of the Turner New Enterprise fund.
While small start-up tech companies often have tenuous balance sheets, most of the tech giants have gobs of cash on hand in case of emergencies. Google has nearly $4.5 billion in cash, for example. So does Intel. Microsoft has $6.1 billion.
Tech does have a seasonal cycle. People tend to buy computers, cell phones and games in the fall, so tech stocks often heat up as the weather gets cooler.
Right now, Price says, there are some hot products out there, ranging from large-screen TVs to iPhones to Nintendo's Wii.
What could go wrong? In technology, there's always a potential for catastrophe. Even though tech is cheap, it's still expensive relative to other sectors, such as financial services. It's just that tech is less expensive than usual. "Technology is as cheap as it has ever been for the growth rate you're getting," Price says.
That's always the big "if" in tech stocks. Suppose you buy the stock of HokeySmoke.com for $10 a share. The company earned 25 cents a share last year, so its trailing P-E, or price-earnings ratio, is 40. That's pricey. (The P-E measures a stock's price relative to earnings. Lower is cheaper.) If HokeySmoke.com expands its earnings to 75 cents a share next year, the stock will sell at a more reasonable 13 times earnings. If earnings stay flat, though, you'll own a stock that's not only expensive but disappointing to investors - a bad combination.
Consider Google, the favorite tech stock of Icon's Straus. It's up 29 percent the past 12 months. By Wall Street estimates, the stock is selling for about 39 times next year's earnings - nose-bleed territory.
Straus estimates the stock's worth at $755. "Google has tremendous earnings growth, and the picture going forward is very bright," he says. If he's right, Google will be a good stock for Icon Information Technology fund, which owns it. If not, he'll need to search for a better stock.
If you do add a tech fund to your portfolio, do so sparingly. The Standard & Poor's 500-stock index has about 21 percent of its assets in tech, according to Morningstar. That may be enough for you. And, at least for now, look for a fund that specializes in large-company tech stocks. The best time for tiny tech stocks is when Wall Street is as confident as a scientist with a formula for pollution-free energy. And that's not now.
WBJ Web Partners
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