Tech funds’ performance breeds confidence in market

Mutual funds that invest in technology stocks are producing great returns — a sign that the market in general is improving, some say — and investors are starting to respond.

Year-to-date through last Wednesday, the tech fund category was up 19.75%, beating all other domestic- stock-fund categories, according to Morningstar Inc. of Chicago.

The Nasdaq Composite Index was up 9.56% year-to-date, while the Standard & Poor's 500 stock index was up 1.14%.

As a result of the sector's strong performance, investors are pouring cash into tech funds.

After suffering negative net cash flows totaling $1.37 billion last year, tech funds this year have seen net inflows of $270 million through March 31, the most recent data available from Financial Research Corp. of Boston.

Investors are thought to have poured another $457 million into tech funds last month, according to estimates from Morningstar.

The outperformance of tech funds is creating some optimism about the market.

Tech-stock performance is “a leading indicator,” said Richard Schroeder, executive vice president of Schroeder Braxton & Vogt Inc., an Amherst, N.Y., financial advisory firm with $170 million in assets. “If the economy recovers, you can make the argument that tech will lead the way.”

But Mr. Schroeder cautioned against putting cash into funds that invest only in tech stocks.

When the tech bubble burst in 2000, many investors learned the hard way that being in a fund that holds only tech stocks can be dangerous, he said.

Times have changed, and tech companies are more stable, but in-vesting in any single sector brings additional risk, Mr. Schroeder said.

Tech funds are only for those investors with a relatively high risk tolerance, said Nicholas Spagnoletti, a partner at Macro Consulting Group LLC, a Parsippany, N.J., firm that oversees $300 million in assets.

“You have to be cautious about allocation,” he said.

Technology as a sector is volatile, agrees Allison Thacker, co-manager of the $97 million RS Technology Fund from RS Investment Management Co. LLC of San Francisco.

Class A shares of the RS Technology Fund (RSIFX) were up 26.24% year-to-date as of last Wednesday, ranking it in the 20th percentile of its category, according to Morningstar.

But it finished last year down 50.9%, ranking it in the 85th percentile of its category; it finished 2007 up 22.3%, ranking it in the 21st percentile; and it finished 2006 up 8.2%, ranking it in the 34th percentile.

For investors with a long time horizon, however, a tech fund can make sense, Ms. Thacker said.

“Technology changes everything you do,” she said. “It's a giant macro-trend.”

And at least for the near term, tech fund returns should continue to be among the market leaders, said Telis Bertsekas, manager of the $93 million MFS Technology Fund from MFS Investment Management of Boston.

Despite their recent run, tech stocks still aren't very expensive, he said.

“I wouldn't expect heroic returns or even what we have seen year-to-date, but they can outperform the market for a while,” Mr. Bertsekas said.

Class A shares of the MFS Technology Fund (MTCAX) were up 32.86% year-to-date as of last Wednesday, ranking it in the fourth percentile of its category.

The fund finished last year down 51.1%, ranking it in the 87th percentile of its category; it finished 2007 up 20.5%, ranking it in the 25th percentile; and it finished 2006 up 21.4%, ranking it in the third percentile.

The tech sector's resurgence, however, isn't happening merely because the stocks were beaten down, which is the primary driver behind the run-up in lower-quality stocks and riskier asset classes, such as financial stocks and emerging-market equities (InvestmentNews, May 18).

The run-up in technology has legs because the fundamentals of tech companies — unlike the fundamentals of financial and emerging-market companies — are very good, said Mark Oelschlager, manager of the $48 million Red Oak Technology Select Fund (ROGSX) from Oak Associates Ltd. in Akron, Ohio.

But because there is little else to recommend financial and emerging-market stocks, their improved performance isn't expected to continue, according to several industry experts.

BETTER BALANCE SHEETS

“Tech hasn't had a lot of the same issues that a lot of the other sectors had,” Mr. Oelschlager said. “It hasn't had balance sheet problems.”

The collapse of the tech sector in 2000 led many of the companies to adopt conservative-balance-sheet practices — a decision that has benefited them and is one of the principal reasons the group is faring well, Mr. Oelschlager said.

The Red Oak Technology Select Fund was up 25.51% year-to-date as of last Wednesday, ranking it in the 23rd percentile of its category, according to Morningstar.

The fund was down 44.6% last year, ranking it in the 41st percentile; it was up 10% in 2007, ranking it in the 81st percentile; and it was up 4.9% in 2006, ranking it in the 66th percentile.

Investors should definitely consider technology, said Kevin Landis, president and chief executive of Firsthand Capital Management Inc., a San Jose, Calif.-based asset manager that specializes in managing tech funds.

“Looking over the course of a few months … the sentiment of the investment community, for one reason or other, feels like tech has better prospects for growth right now,” he said. “If you take the longer view, when looking for growth it's hard not to look at tech.”

E-mail David Hoffman at [email protected].