Tech Will Be Feeling Testy for a While
By Adam Lashinsky
Silicon Valley Columnist
1/16/01 7:00 AM ET
The last time technology stocks got seriously smacked was in the autumn of 1998, when the economic crisis in Asia convinced many investors that the tech-stock bull market finally had run its course. In many ways these days feel like those: a general malaise and fearfulness in Silicon Valley coupled with a near shutdown of the market for initial public offerings, the lifeblood that feeds the Nasdaq machine.
And yet, as bleak as things appear, the up-and-to-the-right mentality hasn't completely vanished, evidenced by last week's three-day Nasdaq rally that just barely missed turning into a four-day streak. This despite Yahoo's! (YHOO:Nasdaq - news - boards) disaster, Hewlett-Packard's (HWP:NYSE - news - boards) latest disappointment and frustrating comments from Cisco (CSCO:Nasdaq - news - boards). "Talking to traders, there's still this feeling that things will drift up," says Dane Lewis, a currently bearish analyst with Robertson Stephens in San Francisco. He made quite a splash on Jan. 2 by downgrading a big batch of tech stocks.
The feeling is wrong. For a variety of reasons, 2001 is not 1998, and for these same reasons it's unlikely tech stocks will come roaring back as they did that year, culminating in the 86% increase in the Nasdaq composite in 1999.
For starters, the concern in 1998 was that Asia was unraveling in the wake of regional stock market implosions in the fall of 1997 that would have a domino effect on the U.S. It turns out that as important as Asia had become, it didn't hold a candle to the U.S. in importance to the world economy.
"My hunch would be that it's quite different this time," says Thomas McManus, equity portfolio strategist for BancAmerica Securities in New York. "Ninety-eight was an unanticipated financial problem, a tsunami that hit us from Asia." That Asian crisis, McManus argues, ended up not having a major effect on the U.S. economy. Today, the tech sector in particular is suffering from a "hangover from the party of excessive spending in technology." Like a real hangover, it will take time to for it to go away.
And then there's more substantive evidence that this time is different, like the profound slowdown in sales of personal computers, confirmed last week by yet another earnings revision by Gateway (GTW:NYSE - news - boards).
"Ninety-eight was, for the world outside of chips, a quick shock, a quick inventory correction, and we had it back up again," says Jonathan Joseph, the semiconductor analyst for Salomon Smith Barney in San Francisco who was the first to call the chip industry downturn. "Today, demand is so soft in general, and so demand for chips has softened significantly," says Joseph, adding that PCs still account for 50% of chip consumption, with the beleaguered communications sector accounting for another 20%. "That's why I think it's a little too early to be buying these stocks on a cyclical basis."
To prove his point, Joseph notes that worldwide shipments of semiconductors, measured in dollar terms, grew 52% in August, 2000, compared with the same month in 1999. "August [2001] will be the toughest comparison in 16 years," he says, and therefore a tough time to be buying chip stocks. "The PC market could very well be in decline this year."
While it's tough to quantify the psychology of a bubble, it's also worth nothing that two-plus years ago the individual investor continued to fuel the boom in tech stocks. "We've passed this psychological tipping point now," argues Roger McNamee, a hedge fund manager, leveraged buyout specialist and unofficial ambassador of Silicon Valley to Wall Street. "In '98 it was still possible to get people excited about the Web. The whole world is going to take a timeout here to just figure out what happened."
One former analyst who was decidedly upbeat in the depths of late 1998 was Michael Kwatinetz, then of Credit Suisse First Boston and now a managing partner of a new San Francisco investment fund, Azure Capital Partners. Today, Kwatinetz isn't as optimistic as he was, though believes tech as a whole has fallen far enough. "The correct bet then was buy, buy, buy. Now it's analyze and buy. You buy the right things now, and you will make money."
Analyze before buying? These certainly are different times.
The Latest 'It' Analyst
Lewis was brand-new to the analyst game in late 1998, so he says he lacks the perspective to make comparisons. But if the tech tape stays down, it's likely Lewis will be remembered for having made the first major call of 2001. He's the guy who downgraded a slew of tech heavyweights including Inktomi (INKT:Nasdaq - news - boards), EMC (EMC:NYSE - news - boards) and CacheFlow (CFLO:Nasdaq - news - boards) on the first trading day of the year.
Numerous Net-sector stocks fell on Lewis's call, which preceded first the Fed's lowering the targeted federal funds rate (confirming his fear of the effects of a weakening economy on tech spending) and then Inktomi's preannouncement of an even weaker quarter than Lewis had forecast. More, shares of CacheFlow, a maker of equipment for storing and delivering Web images that competes with Inktomi, have tumbled even though the company has yet to preannounce results of its quarter that ends this month.
So now that stocks have fallen so far and even recovered a wee bit, is it time to jump back in?
"Nothing's changed," declares Lewis, in a midday interview Thursday during the Nasdaq surge, which he labeled a "sucker's rally."
Lewis argues that IT managers around the world are slashing nonessential tech budgets. His favorite example: His own firm, which spent $150 million on technology in 2000, had planned to spend $250 million in 2001. After assessing the environment, including the likelihood that Robertson Stephens will do precious few IPOs in 2001, the investment bank cut the current-year budget to $100 million. The climate has gotten so bad, Lewis contends, that IT managers with cash to spend can find great bargains, further eroding the margins of manufacturers, like Sun Microsystems (SUNW:Nasdaq - news - boards). "My own CIO told me it was too easy to get discounts."
The other threat to tech stocks, even at this stage of the game is the further erosion of multiples, says Lewis. Among his biggest fears is EMC, the maker of equipment that corporate America uses to store its data. EMC has steadfastly maintained that its business is sound. But Lewis frets that EMC's multiple is far too high for these uncertain times. At Friday's close at $69.06, EMC's stock trades for 71 times Lewis's forecast 2001 earnings of 97 cents a share, a projection that itself is six cents below Wall Street's consensus. EMC's forecast earnings growth rate is 26%, and in an uncertain environment, a forward price-to-earnings ratio closer to a company's growth rate seems more reasonable, says Lewis.
He believes, by the way, that EMC will make its numbers and may not hit real problems for a quarter or two. Still, Lewis predicts that EMC competitor Network Appliance (NTAP:Nasdaq - news - boards), which ends its quarter Jan. 31, will miss its estimates. "And if NTAP misses, EMC's valuation is going to get hammered."
"I love these names longer-term," concludes Lewis. "But we're going to get a chance to buy them much cheaper."
thestreet.com
I doubt they miss estimates. Lewis would have never bought EMC, CSCO, and MSFT in the 1990s with his line of thinking.
Jack |
