Two years and two months since the Nasdaq composite index peaked above 5,000, technology investors and analysts remain mired in the doldrums. The index , which became synonymous with the tech boom when it soared 80 percent in 1999 , bounces limply in the 1,600s with no recovery in sight. Excess inventories continue to weigh down the bellwether semiconductor industry, while excess capacity plagues telecommunications carriers.
Now the watchword is “selectivity.” Tech fund managers are picking spots and niches, targeting companies either because their products and services will be in demand in any economic climate or because they operate in segments that will recover quickly as the economy picks up steam. Strategists are focusing anew on fundamentals like profit projections and returns on investment and are looking for long-term growth prospects rather than short-term spikes. Explains James Burkart, co-manager of the $139 million Strong Technology 100 Fund, “We are telling people that we are headed back into a normal period, and that means that there are certain sectors that will do well and others that will not.”
There are glimmers of hope for the technology sector as a whole. Corporations’ information technology spending is perking up , CIO Magazine’s March poll of 268 IT executives showed an average projected budget increase of 7.7 percent for the coming 12 months, compared with 3.2 percent in the February survey. But the monthly poll, conducted jointly with Deutsche Banc Alex. Brown, is regarded as a leading indicator, at best. Facing the harsher present, fund managers are probing for diamonds in the rough.
Burkart’s jewels are software companies that he expects to capitalize on “the Webification of corporate America.” A case in point , one of his top stocks and a current favorite among tech investors , is Siebel Systems. Burkart bought it at $15 last September, and as of late April it was up to $23.68. (His fund is down 15.18 percent this year.)
Siebel’s popularity stems from its leadership in customer relationship management software; it is a purer CRM play than more diversified competitors like Oracle Corp. and PeopleSoft. San Mateo, California,based Siebel boosted its revenue 14 percent last year, to $2.05 billion, while net income jumped to $255 million from $123 million.
Founder and CEO Thomas Siebel has been lowering expectations for this year, warning that corporate tech spending has been slow to revive. But with the release late last year of the Siebel 7 system and the EFinance 7 version for the financial industry, the company is enjoying strong demand from one key constituency: banks. Needham, Massachusetts,based research firm TowerGroup says that retail financial institutions will increase CRM spending at a compound 6 percent rate between 2001 and 2005.
Hardware has believers, too. Thomas Crowley, manager of the Pioneer Science & Technology Fund, is bullish on photomasks, the intricate quartz plates that semiconductor manufacturers use to etch microscopic circuit patterns onto silicon wafers.
Drawing on his own background as an electrical engineer and concluding that photomasks will be crucial to the evolution of the next generation of microprocessors, Crowley has more than 8 percent of his $33.9 million under management in two manufacturers: DuPont Photomasks and Photronics.
“I don’t think most investors realize how important photomask technology is. We think these stocks can be extremely profitable,” says Crowley. Pioneer Science & Technology, which is down 22.44 percent this year, has owned DuPont Photomasks since the fund’s inception in March 2000. In mid-April DuPont was trading at roughly $50, more than doubling its September bottom of $22.60. Unfortunately, Crowley bought the stock at about $57. But times have changed, and patience has become a virtue.
Crowley picks stocks expecting to double his money over a two- to three-year period. For the semiconductor equipment subsector to deliver those kinds of returns, the old computer-chip demand cycle will have to reassert itself. The recession hit the semiconductor market, which depends on corporate purchases and upgrades of personal computers, especially hard. In January the largest of the chip makers, Intel Corp., announced that it would cut back its spending on factory gear this year by 25 percent.
That’s one reason Robert Gensler, the new manager of the T. Rowe Price Global Technology Fund, characterizes 2002 as a “transitional year” for tech stocks. “It will drive investors crazy with the moves back and forth every day,” he says. But he anticipates an upsurge next year, when the bigger corporate IT budgets really kick in.
Last year, under the stewardship of longtime manager Chip Morris, the T. Rowe Price fund fell 36.1 percent. So far this year the fund, with assets of $79 million, is down a further 14.95 percent.
As Gensler sees it, the basic question is, “if you have to own tech stocks, what is the best way to own them?” He won’t discuss specific trades or positions, although he admits he is overweighting software. His strategy, he says, is to pick companies that are gaining market share while racking up at least modest profit growth. In other words, they have avoided falling into the tank with telecommunications stocks and are bucking the general downtrend.
Gensler says that examples include Analog Devices, a producer of high-speed communications chips; PC maker Dell Computer Corp.; and Siebel Systems. Each hit a trough in the wake of the September 11 terrorist attacks. Analog recovered from $29 a share to about $44 in mid-April before falling back to $35.75 late in the month. Dell rose from $16.01 to $25.57 as of April 29, Siebel from $12.24 to $23.68.
Also betting on CRM , and other software plays , is Seligman Global Technology Fund co-manager Richard Parower. In early March he added to an existing position in Amdocs, a Chesterfield, Missouri,based company that sells customer service and billing systems to the telecommunications industry. Parower, whose fund is down 9.74 percent this year, expects Amdocs to increase its business significantly through a strategic alliance with consulting firm Accenture. He bought the shares in the $26 to $27 range, but they were recently testing their 52-week low of $20.56.
Amdocs ranks among Parower’s top five holdings, along with Symantec Corp., a provider of data security systems; Synopsys, which supplies design and automation tools to chip manufacturers; Autodesk, a leader in computer-assisted design technologies; and Microsoft Corp.
Symantec typifies the appetite for information security stocks since the terrorist attacks. The stock of the Cupertino, California,based maker of antivirus software, firewalls and related data protection measures had recovered from a $15.77 low last fall to roughly $34 in late April.
The data storage and disaster recovery categories are similarly poised for growth. Wayne, Pennsylvania,based SunGard Data Systems, the leading operator of backup computer centers for corporations as well as a major technology supplier to Wall Street, increased its operating income 15 percent in the fourth quarter, to $76 million, and 23 percent in the first quarter, to $71 million. Its shares, only $10 on October 1, leaped to $30 in April. “SunGard is benefiting from the increased corporate focus on business continuity and disaster recovery,” says Parower, who has held the stock for two years.
Also getting a post-9/11 lift was Mountain View, California,based Veritas Software Corp., a seller of storage management systems that are often used in data recovery operations. Veritas closed at $36.86 on April 16, more than double its October low of $17.30. But on April 16 Veritas reported a 4 percent dip in first-quarter revenues, to $370 million, and two weeks later the shares were at about $26.
That just goes to show that broad trends, even in well-defined information security subsectors, are not easy to discern. Of 16 IT security stocks covered by analysts at Portland, Oregon,based Pacific Crest Securities , including Check Point Software Technologies, Network Associates, RSA Security and VeriSign , only two registered year-to-date gains through early April. They were Symantec (24 percent) and Rainbow Technologies (33 percent), an Irvine, California,based seller of a wide range of security equipment and software. During March, however, 13 of the 16 Pacific Crest selections rose.
T. Rowe’s Gensler says that the undulations have a positive side: “Volatility gives you the wonderful opportunity to trade around your core positions.” His usual approach is to stick with what he considers core holdings, trimming where stocks appear overvalued and adding on the dips.
Ever the enthusiast, Gensler adds, “If I own things and they go down, I want to buy more.”
Declares Pioneer’s Crowley: “Technology never stops. The economy can go up and down, but there are always transitions going on.”
