The great mining specialist fund manager Julian Baring observed that reacting to pain is the downfall for most investors. He said it is the pain of not owning something that has performed very well that causes investors to pile in at the worst moment and it is the pain of owning something that has performed poorly that causes many to sell just as the investment turns for the better.
The technology sector has caused investors more than its fair share of pain over the years. Morningstar reports that the majority of open-ended technology funds managed in the UK are suffering significant outflows. Over a quarter of these funds have shrunk to under £10m and some managers are giving up. For example, Aegon’s technology fund closes this month. Against this background, it is surely time to re-examine the case for the technology sector.
It would probably surprise many that the continuing exodus from technology funds is coinciding with a recovery in the sector. Over the three-month period to the end of June, the FTSE Global Technology index rose by 9.2 per cent compared with 3.7 per cent for the FTSE All Share index. These results are particularly impressive in the context of the weakness of the dollar during the period, given the dominance of US companies in the technology sector. Furthermore, the sector that remains the darling of the UK retail investor, UK real estate, had a torrid time, with the FTSE All Share Real Estate index falling by 14.8 per cent. But it is not unusual for investors to take time to react to changes in the market.
Technology stocks became wildly overvalued at the height of the boom but after seven years of generally poor performance, investors now undervalue their long-term potential. Recovery in the technology sector’s fortunes will be far from uniform but bid activity is showing that those with the best insight into the prospects for the companies are buyers. For example, Microsoft announced its biggest ever acquisition in May when it bid $6bn for online advertising company AQuantive. What was most striking about this deal was that Microsoft was prepared to pay $66.50 in cash per share for a company that had 11 per cent of its shares sold short (investors betting that the price would fall). This illustrates how many investors considered AQuantive to be significantly overvalued when its share price was less than half of Microsoft’s cash offer.
The pipeline for technology products in consumer markets is excellent, with 3G phones, a new generation of game consols, digital home applications and Microsoft’s new Vista operating system. Rapid economic growth in emerging markets is opening up huge markets and rising broadband penetration is increasing the use of technology in the home and the workplace. Furthermore, seven years on from the bursting of the TMT bubble, companies are cash-rich and have the resources and incentive to invest more heavily in technology after several years of comparatively low capital expenditure.
Perhaps the best way to access a professionally managed portfolio of technology company shares is through investment trusts such as Polar Capital technology, Herald and RCM technology investment trust. An attraction of these trusts is the significant discounts to net asset value at which their shares trade in the stockmarket. Once sentiment recovers towards technology, these discounts will narrow quickly, especially since there are now so few high quality technology funds.
Richard Scott manages the CF iimia growth & income fund.