Exceelnt article by Mike Santoli: Tattoos for Tech Managers How to tell the bikers from the defensive drivers
By Michael Santoli
You'll never see a skull and crossbones on an ad for technology mutual
funds. Fund prospectuses aren't stamped with the "flammable" signs seen on
oil trucks. And aggressive portfolio managers don't expose their Hell's Angels
tattoos during television interviews for the investing public to see.
Otherwise it would be easier to discern, in a timely way, which tech funds are
skirting the edge of danger as their managers chase the most potent and
precarious stocks.
But as it is -- with most such sector funds carrying similarly bland Science and
Technology monikers and purporting to seek mere "capital appreciation" --
sorting the defensive drivers from the bikers who spurn helmet laws often
requires the kind of shakeout that follows extraordinary market moves. Which
is exactly what tech fund managers were forced to navigate as the Nasdaq
caromed off its high above 5000 March 10 to plunge 34% by the time Friday
the 14th's merciless selloff was done.
Scoreboard | Fund Scope | Cash Track
Just as important, the way individual funds behaved in last Monday's forceful
bounce -- which favored pedigreed, profitable tech stocks over perilous,
profitless ones -- offers valuable hints about what's under the hood of tech
portfolios. The market during this period can serve as an excellent centrifuge
to separate different strains of technology funds, because the divergences
were so dramatic within the technology universe between soaring and sleepy
stocks.
Joseph Keating, chief investment officer of the Kent Funds out of Grand
Rapids, Michigan, attached some numbers to the varied performance
between speculative-grade Nasdaq names and what he terms "reasonable"
components. He calculated that from the Nasdaq's peak on March 10
through the bone-rattling close on April 14, the average decline of the Nasdaq
stocks with either negative earnings or a price-earnings ratio above 40 was
42.7%. Those stocks that boasted earnings and whose P/Es were below 40
lost a mere 6.2% as a group. (For sure, the prior group of more speculative
stocks trounced the more terrestrial cohort in the months leading up to the
Nasdaq peak.)
This pattern would clearly mean that the funds that had gorged on the
loss-making tech concept companies would have suffered the worst in the
Nasdaq downswing. Then last Monday, the wounds of the prior week still
fresh, the vast bulk of the buying occurred in the highly profitable tech blue
chips that make up the Nasdaq 100, a sub-index that gained almost twice as
much as the overall Nasdaq Composite that day. So, the more of its losses a
fund recovered during that bounce, the "higher-quality" its tech portfolio likely
is.
To take an extreme example, PBHG Technology & Communications-a fund
seemingly run on pure adrenaline -- imploded by more than 55% in the time
the Nasdaq was losing 34%. On Monday, the fund rebounded by 8.7%,
hardly making a dent in its decline. Clearly, this was a fund driven with the
speedometer needle pinned in the red zone and it never stopped to ask about
balance sheets and valuations. This is, of course, by design, given that PBHG
is a momentum -- following shop above all.
Pure technology funds that fared better in the maelstrom include the popular
$2.8 billion Northern Technology fund. It slightly outperformed the Nasdaq
on the way down, falling 31.5%, and then outbounced it on the way up
Monday with a 12.2% ascent, which provides testimony that it is a rather
focused play on brand name tech stocks. Fidelity Select Electronics managed
a 12.8% pop Monday alone after having slid "only" 19% from the Nasdaq
nadir. A honed heavy weighting in the semiconductor group, which has been
riding one of its cyclical upturns in profits and share prices, is responsible
here.
The distinctions among tech funds between those that are fond of newer
Internet plays and others satisfied with proven industry leadership -- will
continue to be important for anyone who shares the gathering concern about
the tide of new stock from recently public tech firms that's slated to hit the
market. Now, if Microsoft's disappointing outlook late Thursday infects the
shares of even the prodigiously profitable names, there may be no immediate
place to hide in this sector.
And of course, breaking down funds based on the past six weeks' results will
also help those who are seeking to paddle out after the recent washout to ride
the foaming, curling lip of the new-tech tide once again.
One thing the New Economy surfers in this latter group can be certain of is
the eagerness with which Wall Street is beckoning for their money. In fact, the
individual's ability to get into edgy investments formerly reserved for the
carriage trade and big institutions has probably never been greater.
Chase H&Q, the securities division of Chase Manhattan, is set to announce
this week that it is reopening the H&Q IPO & Emerging Company fund to
new investors. This is a six-month-old vehicle created to give anyone who
could scrape together $5,000 ($2,000 in an IRA) access to tantalizing initial
stock offerings -- those coveted stocks whose first-day moonshots mock the
average investor who fails to get a piece. The $750 million fund, which came
to market in late October, closed to new investors on December 30.
Its mission is to put at least 65% of its
assets in shares of companies either
just coming public or those that have
been on the market for less than 18
months. This doesn't necessarily mean
the fund simply flips the hot young
Internet stock of the week; its largest
holding as of March 31 remained
Goldman Sachs, according to
Morningstar.com. But a look at the
nearby chart of the fund's net asset
value shows that most of what H&Q
IPO is up to is riding the new-issue deal flow, a proxy for the most
temperamental fringe of the Nasdaq market. The dramatic chart also shows
that owning stocks from their debut to the year-and-a-half mark can capture
both their glorious first act and their frequent retreat into neglect as the next
new thing enchants investors.
Whereas before the fund's pitch was geared toward getting some little guys in
on the ground floor of towering IPO riches, its mission now is to unleash the
bloodhounds to sniff for sentient tech stocks under the rubble. Or, as the
company puts it, Chase H&Q is reopening the fund to offer investors "a way
to take advantage of investment opportunities in emerging growth and new
economy companies presented by the recent market volatility."
Also in the category of giving the man on the street the keys to the Silicon
Valley kingdom of wealth, a new closed-end fund is going one step beyond
the IPO bazaar to offer low-cost access to the back-room cabal of venture
capital. The meVC Draper Fisher Jurvetson Fund I raised $330 million in late
March, which it will funnel toward post-startup private companies in the
Internet and telecom fields. The fund, whose shares won't be listed on the
New York Stock Exchange until late June (90 days from its March 29
offering date), was offered to investors buying a minimum of $2,000 worth of
shares.
Draper Fisher Jurvetson is an established California venture firm which
currently runs $800 million of its own private money, and meVC is a new firm
formed by former Robertson Stephens investment bankers with the aim of
bringing VC to the masses. The idea behind the closed-end fund is that it will
use Draper Fisher's contacts and deal flow to find promising private
investments, which it will then incubate and, it hopes, hatch profitably. As in
traditional venture-capital arrangements, the fund will charge a 2.5%
management fee and keep 20% of any realized capital gains every year.
Several questions spring initially to mind. The first is how an investor will
know at any given time what the fund's holdings are worth in the absence of
publicly quoted values for its portfolio investments. The company's prospectus
says the board will fix a net-asset value weekly, initially at cost and later using
whatever estimate it can make of the squishy worth of green tech firms. This
being the case, the true value of the meVC Draper Fisher shares is sure to be
rather opaque, and any payoff from this kind of investing won't come for
years.
Another question concerns the fund's access to the best deals. Draper Fisher
has its own responsibilities to its private investors, so the way it allocates
prospective investments between its own fund and the closed-end vehicle will
be a key determinant of the public fund's performance.
A spokeswoman for the closed-end fund declined comment due to
restrictions of the mandated post-offering "quiet period," which ends this
week.
More broadly, it's important to ask whether venture investing is the place to
be right now. The failure rate is high in the field in the best of times. But there
is currently a record volume of venture money at work chasing technology
startups, a supply glut that any economist will tell you is a recipe for less
favorable deal terms and more reckless throwing of money at sketchier
prospects.
With both the H&Q IPO fund and the meVC venture offering, individual
investors might wonder, like Groucho Marx, whether they really want to be a
member of any previously exclusive club that would have them.
Getting a fix on how much cash is abroad in the land representing latent
buying power has become a serious endeavor in these uneasy market weeks.
An immediate snapshot of sidelined cash shows a major seasonal outflow
from money-market funds. A hefty $26 billion rolled out of money funds in the
week ended Wednesday, according to AMG Data, as the public wrote
checks against them to pay tax bills. Peter Crane of Money Fund Report
notes that, last year, $35 billion ran out of money markets in the two weeks
following April 15.
Still, the flows into stock funds, especially more aggressive tech-oriented
funds, did not abate last week. And the analysts at Bridgewater Associates
report that the seemingly liquidity-induced tax time market weakness appears
to be an annual -- and fleeting -- phenomenon. In the past five years, the
major stock indexes have lost 2%-3% on average in the 10 days before tax
day, bottoming on the day before (sounds familiar). A rather sharp rally has
then tended to ensue over the following 10 days. |
