Stein Roe Unplugs Proposed Net Fund as Investors Grow Wary of the Sector

Maybe Internet mutual funds were just a fad -- at least if you look at things lately.

Stein Roe Mutual Funds, one of the first established fund firms to say it would offer an Internet fund, has decided to nix the idea. The move comes as asset flows into existing Internet mutual funds are slowing dramatically.

David Brady, the Stein Roe manager who had been tapped to co-manage the proposed Internet Leaders fund, says the firm will instead focus on its existing funds.

"We've been in a holding pattern for quite a while now," says Brady, who runs Stein Roe's (SRYIX)Young Investor, (SRGIX)Growth Investor and (SRLFX)Large Company Focus funds. "The question is, 'Are there going to be Internet companies out there in five years ... or is everyone going to be an Internet company by default?' "

When Stein Roe filed a prospectus for the Internet Leaders fund in June, there was speculation that a hot Internet fund could help put the struggling firm back on the mutual fund map. Stein Roe spokeswoman Wendy Rauch couldn't say why the firm decided to pull the fund. "All I know at this point is that we pulled the filing. I don't have any information on future plans," Rauch said Wednesday.

Investors seemed transfixed by Internet funds last spring. They poured $1.3 billion into them in April as Internet stocks reached never-seen-before (or since) highs. But the flow of new investment has fallen each month since then, even as the number of Internet funds has grown.

Investors put just $136 million net into Internet funds in August (the latest month for which numbers are available), according to Financial Research Corp., a Boston fund consultant. The firm tracks seven Internet funds now, compared with five in April.

One of those funds, the ballyhooed (WWWFX)Internet fund, is now seeing net redemptions. The no-load fund, which once topped $800 million in assets, is down to $560 million, and its performance has slumped since the July departure of its star manager, Ryan Jacob.

Jacob plans to launch his own Internet fund later this year, and he's not alone. While there were just three Internet funds at this time last year, there are now at least 20 in operation or in the planning stages. Enterprise Internet and ING Internet are two broker-sold newcomers that saw strong inflows of $27.2 million and $14.8 million, respectively, in July. But those flows were cut by one-half to two-thirds in August.

So with flows slowing and more funds coming out, has the Internet revolution fizzled?

"I sure hope not," chuckles Jacob. "I don't want to end up as the Vanilla Ice of the Internet."

His much anticipated fund could be a proxy for investor interest in Internet funds. Jacob maintains that interest in the sector is still strong.

"The attention we've received has been awesome, and the demand has been unbelievable," Jacob says. "Obviously, we're not going to be pulling our registration." But he admits his fund may be the exception to the rule.

Indeed, even relatively established Internet funds, such as (MFITX)Monument Internet, have seen a dramatic slowdown in asset intake, despite aggressive marketing. After launching last November and quickly ramping up to $40 million in assets by April, the broker-sold fund took in only $1.6 million in August.

(MNNAX)Munder NetNet, the $2.9 billion gorilla of Internet funds, took in just $127 million in August, compared to its $850 million April high.

Stein Roe's decision not to launch its fund may have as much to do with a host of internal problems -- including some high-profile manager departures -- than with waning investor interest in Internet funds.

And the waxing and waning of asset flows into any sector is not unusual, says Philadelphia mutual fund consultant Burt Greenwald. "What's happening is that after the initial intoxicating experience you're seeing a morning-after type of reflection."

At this point, it's anybody's guess when Internet funds' hangover will wear off. All they may need is the Alka-Seltzer of good performance, and that may already be here.

TheStreet.com Internet Sector index is up 48% from its Aug. 9 low, even after giving some gains back during last week's market turmoil. And ING Internet, Enterprise Internet and (WWIFX)WWW Internet are among the top 10 technology funds for the last three months, according to Lipper.

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