Smarter Money: A Sobering Take on Tech Stocks

Don't believe me when I say tech may be too hard for most of you? Don't take it from me. Take it from Bob Stansky, the great stock picker who runs Fidelity's (FMAGX Quote)Magellan fund. If you have money with Magellan, as I do, you got your annual report in the mail yesterday. Came in that oversized white envelope with the green letters. No, don't throw it out. Open it. Like most things that come out from Fidelity, it is an unapologetic, no-holds-barred look at performance.

In a terrific Q&A between Mr. "Beats Me" (they never reveal who does the questioning) and Stansky, the manager gets grilled about why he fell behind the S&P over the last year. He explains calmly that he was underweighted in defensive issues. But, it could have been far worse, because Stansky made a great call on technology, cutting his fund back to an 11% weighting vs. a 17.4% weighting in the S&P.

Why does that matter? These big funds are benchmarked against the S&P. If he wanted to be the S&P he would just mimic it. You don't need his fee structure for that. You could just go to an index fund. If he wants to beat the S&P, he has to figure out which sectors are going to outperform. He chose incorrectly when he underweighted defensive issues, but he could have lost far more than the S&P (he was down 24.22% vs. down 21.68% for the S&P) if he had gone hog wild with tech as so many inferior managers did.

Listen to his rationale about why he remains underweighted, and, more important, think about it, because this is a manager who has far more resources than anyone else reading this note (he is a reader) and has more than analytical skills than 99% of us:

At the end of the period, I felt there were more questions than answers regarding technology. Looking back, several elements converged to cause the downfall of tech stocks through 2000 and into 2001. I've mentioned high valuations. In addition, the late '90s saw a combination of significant Y2K spending -- which had a finite duration -- and the rapid build-out of technology networks by newer companies that quickly received funding from the capital markets despite a lack of earnings history. That ended when it became increasingly difficult for these companies to raise the capital they needed to sustain strong growth. Plus, the slowing economy put pressure on corporate profits across the entire market, causing many different types of companies to begin to cut their spending on technology. As a result I reduced my investments on some of the larger tech companies believing that, because of their size, they would find it difficult to sustain the growth rates of recent years. For example, Cisco, EMC and Sun Micro were no longer among the fund's top-10 investments at the end of the period. Looking ahead, I'm trying to analyze how long the soft demand for tech products will last. And I'm trying to examine how quickly companies will work through the excess tech inventory in the marketplace before they begin to reorder products and services. Longer term, I believe the technology sector still offers attractive growth. But I'll have a better feel about the near term in the months ahead.

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