Investors eager to profit from the dot.com craze but wary of buying individual stocks are flocking to Internet mutual funds. Since mid-December, they have poured $1.3 billion into this small but sizzling fund category. No wonder: Internet funds delivered stratospheric returns in 1999. The best performer of the bunch, Monument Internet Fund, surged 273% last year, followed by Internet Fund, which was up 216%.
With investor interest sizzling, asset-management companies are falling all over one another to get a piece of the action. A year ago, just four stock funds specialized in the Internet. At last count, some 30 were up and running, with the bulk of them hitting the market since August. Goldman Sachs launched an Internet offering in October, and RS Investment Management and Strong Capital Management followed suit in December and January. Merrill Lynch plans an offering in mid-March, and several other Web funds are expected in the next few months. "Everyone is jumping on the bandwagon," says Reuben Brewer, manager of mutual-fund research at Value Line.
In bringing out the new funds, managers are hoping to replicate the success of Munder NetNet, the largest Internet fund, whose assets reached $8 billion recently, up from $363 million at the start of 1999. Munder NetNet rose 176% in 1999 and boasts an annualized three-year return of 92%. In all, Internet fund assets have rocketed to $10.7 billion from $370 million a year ago (chart).
Despite their popularity, Internet funds are short on two key qualities: experienced management and diversified stock mix. Many of the newest funds are sponsored by small, untested investment firms. Pure Play Internet, for instance, is one of four funds recently launched by the fledgling cyberfund family StockJungle (BW--Jan. 31, 2000). Jacob Internet Fund, which made its debut on Dec. 13, is the creation of Ryan Jacob, who managed the Internet Fund until June, when he went off on his own. Meanwhile, Steve Harmon, a well-known online analyst of Internet stocks, plans to kick off two Internet funds in the spring even though he has never managed mutual funds. "You have to worry about whether the smaller funds will stick around if Internet stocks go into a protracted downturn," says Christopher Traulsen, who follows Net funds for Morningstar.
Even some established fund outfits that are starting Web funds lack experience in this specialized sector. Ron Baron, the respected manager who heads Baron Funds, is launching Baron iOpportunity Fund on Feb. 29, though he has never before focused on tech stocks. Baron insists, however, that the new fund plays to his forte: picking successful growth issues. "All of the companies we invest in now we think have viable Internet strategies," he says, noting that the firm's largest holding is Charles Schwab, a leader in online trading. "We are going to be in dot.com stocks but also bricks-and-mortar companies that will benefit from the Internet." iOpportunity will be run by Mitch Rubin and Matt Ervin, who have helped Baron manage Baron Growth Fund for the past year.
The narrow focus of Internet funds can make them extremely volatile, and "there will be nowhere to hide if the bubble bursts," cautions Morningstar's Traulsen. Unlike broader technology funds, many Internet offerings must invest at least 65% of their portfolios in Web stocks, preventing them from taking refuge in other areas when Net plays stumble. When tech stocks went through a correction in May, the average technology fund lost 1.2%--but Monument Internet Fund dropped 17.9%.
RISKIER. Some of the newer funds are more tightly focused on Internet subsectors, which adds to their risk. Consider four offerings launched in January by Kinetics Asset Management, which runs the Internet Fund. Its Internet New Paradigm Fund focuses on traditional companies, such as CBS, that are revamping to take advantage of the Net. The Internet Infrastructure Fund buys such companies as Qwest Communications International. The Internet Emerging Growth Fund focuses on Internet startups, such as Xpedior, and Internet Global Growth Fund purchases the stocks of Internet companies in foreign markets, such as United GlobalCom.
Most investors seeking to heighten their involvement in Net stocks should probably select a broader technology or telecommunications fund that invests heavily in the Internet and has a proven track record, such as Dresdner RCM Global Technology, which has a three-year annualized return of 80%, or Invesco Telecommunications, with a three-year annualized return of 65%.
But if you're set on adding an Internet fund to your portfolio, Morningstar's Traulsen suggests sticking to offerings run by veteran technology managers. RS Internet Age Fund, for example, is run by Jim Callinan, who also oversees the RS Emerging Growth fund, and whom Morningstar recently named the best domestic stock fund manager of the year. Firsthand Funds' e-Commerce Fund is managed by Kevin Landis, whose Technology Value Fund boasts the best five-year performance of any mutual fund. With all the brash young cowboys getting into the Net-fund biz, you might be better off with a fund that has someone more seasoned in the saddle.