A week ago, there seemed no end in sight to the surge in technology stocks, which had nearly doubled as a group since last summer. Then, on July 18 and July 19, the bottom fell out, dragging down broader markets as well.
The problem: industry leaders Microsoft, IBM, and Intel posted results that either failed to meet investors' optimistic expectations or were tempered with downbeat assessments for the rest of the year. Following their lead, the entire sector swooned. "My screen is very red," says Gary Helmig, an analyst with SoundView Financial Group Inc. "It's kind of ugly." In all, the Pacific High Technology Index of 100 companies plunged 7%.
Still, many investors remain optimistic about the companies' long-term prospects--so long as they make good on the promise of new products, such as Microsoft Corp.'s Windows 95, which have been built into their share prices. "The momentum in tech stocks has just been incredible," says Benjamin Zack, president of Zacks & Co. in Chicago.
Companies have managed that momentum by skillfully orchestrating investor expectations. Many high-tech players have underpromised and overdelivered, hoping upside earnings surprises would boost their shares. "Some do a good job of handling expectations," says Michelle R. Clayman, chief investment officer at New Amsterdam Partners, which manages $245 million in assets. "They know how to manage the Street." Exhibit A: Microsoft, she says, consistently reports earnings slightly above the consensus.
The game may have backfired this time. Technology stocks plunged after IBM and Microsoft had warned of a possible second-half slowdown. And Big Blue's investors were spooked that only half of IBM's earnings growth came from sales increases. Intel Corp.'s earnings disappointment proved particularly unsettling: Its second quarter came in 2 cents below the consensus estimate of $1.01 a share, and its shares plummeted.
Some big tech buyers are keeping their fingers close to the sell button. New Amsterdam's Clayman, for instance, has pulled back recently, thanks to computer models that tell her to cut her tech holdings in half, though she says she remains convinced that the sector still has tremendous potential. Adds Bruce D. Smith, a technology analyst with Morgan Stanley Asset Management Inc.: "As long as the fundamentals remain intact, this is a necessary correction in an ongoing bull market for technology."
Tech's most high-profile backer may be Fidelity Investments. Many of Fidelity's largest mutual funds were hammered by the drop in tech stocks. The $50 billion Magellan Fund, for instance, fell 1.6% on July 18. It has 45% of its assets in tech stocks. The mutual fund shook off the hit, and the firm issued a statement meant to reassure. "One quarter does not make a year," Fidelity said. For that matter, one downturn in an 18-month boom doesn't spell the end of a bull market either.