Tapping High Tech's Latest Takeoff
If there were ever any question whether technology stocks make good investments, consider what happened in the first two months of 1998. After swooning in December, the top names in technology recovered quickly and drove the NASDAQ to record levels. Some stocks advanced so fast it would take years to make the same return from a certificate of deposit or a T-bill at current interest rates. Dell Computer leaped 61% through Mar. 2, and Microsoft is up 29%. So is it too late to cash in on the latest high-tech boom? Not yet.
Professional technology investors say their worst fears about the financial crisis in Asia affecting high-tech industries have ebbed. And market momentum is clearly in tech's favor. "Investors think that a year from now, all these stocks will be higher, and they're afraid of losing out on the rebound," says Kevin Landis, manager of two high-tech funds at Interactive Investments in San Mateo, Calif. (888 883-3863). Adds Mark Edelstone, principal and technology analyst at Morgan Stanley Dean Witter Discover: "If you look at where the [U.S. economy's] growth is going to come from, it's technology."
HAIR-RAISING RIDE. Despite the recent runup, there are still plenty of bargains around. Some companies are not yet back to their pre-December highs. Seagate Technology, for example, is up 26% this year, to 23 5/16, but it's still below last year's peak of 54. That's a good reminder that high-tech investing can be a hair-raising experience. More than any other sector, technology can plummet any time for next to no reason. Indeed, Edelstone thinks tech stocks are due for a breather in coming weeks and recommends that investors buy on weakness in the next 30 to 60 days.
Semiconductor stocks are back in favor after being hit particularly hard by the Asian crisis. Edelstone, a chip analyst, likes Intel--despite its recent rise, which has pushed its price-earnings ratio to 22 times estimated 1998 earnings. Edelstone believes Intel's revenues and earnings will grow sharply in the second half as the company sells more high-end microprocessors. At 87 5/8, Intel is trading at a discount to the Standard & Poor's industrials index, whose p-e is 24.
Landis, whose Technology Value fund has the best three-year record through Jan. 31 of all specialty technology funds tracked by Morningstar, also likes chipmakers. His new fund, Technology Leaders, has Intel as its fourth-largest holding, at 9%. But he thinks there are better bargains among smaller semiconductor makers, including Vitesse Semiconductor, which makes chips that link copper wire with fiber-optic cable. Vitesse's earnings are expected to rise 37% in the fiscal year ending Sept. 30 as revenues grow over 60%. Despite Vitesse's multiple of 42 times 1998 earnings, Landis thinks the company is "about as bulletproof as you can get in terms of meeting expectations." He's betting that the stock is headed into the 60s from a recent 49 1/4.
Don't care for chipmakers? You may want to follow the strategy favored by James Callinan, a top small-cap fund manager at Robertson Stephens. He likes undervalued Internet companies. One of Callinan's top picks is Check Point Software Technologies, which makes "firewall" software that is used to provide security on the Net. "Check Point is a vital company" for Internet commerce, Callinan believes. Its profits are expected to grow 29% in 1998, to $1.38 a share, and to beat handily 1999 Wall Street estimates of $1.71, he predicts.
Another Callinan recommendation is Network Solutions, which registers Internet-domain names for $35 a pop. Some 1 million names were registered last year, but Callinan says the number is expected to grow to 140 million in two years. At a recent 20 1/2, Network Solutions is trading at 41 times expected 1998 profits, well below other Internet companies, such as Yahoo!, which is selling at a mindboggling 197 times estimated '98 earnings. Earnings estimates put Network Solutions' growth at 65% in 1998 and 63% in 1999, making it a relative bargain. Callinan also likes TMP Worldwide. It runs monsterboard.com, a popular Web site for classified ads. At 24, the stock is being valued as if it were an advertising agency instead of an Internet stock, Callinan says. If it were priced like other Net stocks, it would be worth about $39 a share, he adds.
RARE FANS. Even value players are excited about tech stocks now. Mark Donovan, head of equity research at Boston Partners Asset Management, usually shuns tech companies in favor of steadier, slower growers trading at a discount to the market. But he sees a good value play in EDS, which he thinks is poised to produce strong revenue growth this year after hitting a wall in 1997. At 43 7/16, EDS recently traded at 20 times next year's estimated earnings, well below its usual multiple, Donovan says.
Donovan also likes disk-drive makers Quantum, Western Digital, and Seagate. All these stocks were crushed last fall by concerns about slowing PC sales and excess inventories. Seagate bottomed out at 17 3/4 in January, down from last year's high of 54. But Donovan is convinced the inventory correction has run its course and that these companies are likely to beat earnings estimates in the next 18 months. Meanwhile, Steven Milunovich, managing director at Merrill Lynch, likes EMC, a powerhouse in the data-storage business. At a recent price of 37 3/4, EMC is richly valued at 28 times his expected 1998 earnings. But Milunovich recommends buying the stock on dips because its rate of earnings growth has accelerated to over 30%.
One way to play the tech sector is to ferret out companies that help manufacturers improve their productivity. Tom Kippola, a Silicon Valley consultant and co-author of The Gorilla Game, a new book on high-tech investing, admires i2 Technologies and Manugistics Group, two fast-growing software makers whose programs permit businesses to launch build-to-order strategies. Because the programs let manufacturers save on warehouse construction and inventories, they can break even on their software investments in as little as six months, Kippola figures. If you prefer bigger names, Esther Schreiber, a vice-president at Credit Suisse First Boston, says Microsoft is worth considering despite a high earnings multiple. "Business is going incredibly well," she says.
Schreiber thinks even Microsoft is undervalued based on its expected cash flow and the number of years it should earn an above-average return on invested capital. Another plus for Microsoft: It's less volatile than, say, Seagate. In the past three years, Microsoft's biggest decline was 19% in a three-week period in December. For a technology stock, that's not bad.
If you don't want to gamble on a high-risk tech stock--which includes virtually every offering--you could stick with a technology mutual fund. Even the best of these gyrate wildly. But if you're eager to own a piece of the latest technology boom, a good mutual fund or a well-diversified group of tech stocks will make sure you don't get left out.