‘Momentum’ Buyers Beat a Retreat After Fueling Wild Market Surge
“Momentum” was the name of the game on Wall Street for most of the first quarter.
But is the game over?
Monday’s record plunge in the Nasdaq composite index was a brutal comeuppance for many pure momentum investors--those who pile into stocks just as long as they’re rising, with little regard to the fundamentals of the businesses.
The surge in technology issues to such improbable heights in the first quarter came in no small part from the frenzied buying of momentum investors.
They couldn’t get enough of hot tech stocks such as QLogic and Next Level Communications, or mutual funds such as PBHG Growth and Van Wagoner Technology, while they were churning out huge gains in January and February.
Now the fast-money crowd is diving for cover as tech stocks large and small continue to unravel. The Nasdaq composite index, up 24% year-to-date as of March 10, has already surrendered nearly all of that gain--and is up a mere 3.8% for the year.
More important, unlike in the wake of the two brief “corrections” earlier this year in the Nasdaq index, many Wall Street pros doubt that the Big Mo will return to that market soon.
And when it does return, they say, look for the biggest-name tech stocks to take the lead in any rebound. Smaller and mid-size issues will follow.
To be sure, the growth prospects for many of the first quarter’s favorite technology companies remain bright. The sector is poised to report impressive quarterly earnings over the next few weeks, analysts say.
With regard to smaller technology stocks in particular--the ones that doubled, tripled, even quadrupled in the quarter--many growth-stock fund managers insist this isn’t the start of a long-term collapse.
“I don’t think we’ve entered a new bear market for small-cap tech stocks like we did in May ‘96,” said Garrett Van Wagoner, head of the top-performing Van Wagoner funds in San Francisco. “Business is too good and there’s too much interest in new technology.”
The pullback in recent weeks has to be put in context: The Nasdaq composite index, at 4,223.68 as of Monday, still is up 42% since the end of October.
The Standard & Poor’s 600 small-stock index, which slid 2.5% on Monday, is up 16% since the end of October.
QLogic, a semiconductor maker, was a $17 stock a year ago. From its recent peak of $203.25, it has plunged to $103.06--but still is up fivefold from a year ago.
By contrast, the blue-chip Dow Jones industrial average, suddenly back in vogue as investors look for lower-risk stocks, is up just 4.5% since October.
Nonetheless, the reality of momentum investing is that what’s hot can turn cold in a hurry and stay that way for a while.
Case in point: Major Internet stocks, after peaking in April 1999, slid for the next four months before bottoming last August. Many of the shares lost 50% or more in that period.
Many momentum investors who have all but ignored the super-rich price-to-earnings multiples of soaring tech stocks this year may now be paying more attention--especially given the warnings last week about the dire financial straits of such “dot-com” companies as Drkoop.com and CDNow.
“Everybody thought that buying tech stocks was like shooting fish in a barrel,” said Gene Sit, chief investment officer of Sit Investment Associates. “It doesn’t work that way. The best thing that could happen to the market is days like [these].”
Even if the current pullback runs its course quickly, tech stocks--especially small- and mid-size issues that have spiced up many hot growth funds in recent months--could be held back by various obstacles over the next few months.
One issue is that many stocks look “damaged” on the technical price charts that many momentum players watch so carefully.
Even before Monday’s plunge, the Nasdaq composite was flashing technical warning signs. For example, after swooning early in March, Nasdaq rallied back quickly but fell short of a new high before tumbling into its latest slide.
That’s a sign of flagging buying demand, especially among big institutional investors.
Among smaller investors, the record level of borrowing on “margin” to fund speculative stock purchases in January and February could come back to haunt them. As the stocks tumble, those loans may be called in--forcing investors to sell even if they didn’t want to do so.
Likewise, some unknown portion of the record sums that poured into aggressive-growth mutual funds in the first two months of the year may flow back out as investors run for cover. That could further lift the supply of smaller growth stocks on the market, while taking away what had been a major source of demand.
In any case, mutual fund inflows typically are heavy in January and February as people invest year-end bonus money, but slow after April, after investors have made annual contributions to retirement accounts.
Smaller stocks, and tech shares in general, also have to grapple with the issue of seasonality.
Historically, late spring and summer have often been weak periods for tech stocks--as they were for Internet-related stocks last year.
But Van Wagoner and others argue that none of these problems are so serious that the small and mid-size growth stock sector faces ruin.
He says the selling pressure could lift as companies report first-quarter profits. “It’s going to be the first reminder of why people got so excited about this in the first place.”
Art Bonnel, manager of the U.S. Global Investors Bonnel Growth fund (up 29% in the first quarter) believes the small-stock rally, which is barely five months old, has a lot of room to run.
The latest bout of selling is overdue profit taking, he said. But investors will be back quickly, he contends.
“It seems like everyone expected [tech stocks] to sell off so they’re selling them off,” Bonnel reasoned. “Then everyone says, ‘Gee, I sold them. Now what do I do?’ ”
Van Wagoner, a veteran of many momentum markets, also argues that “if the market turns back up again, money will flow right back in quickly,” despite the losses many investors have suffered.
What they’re betting on is that many investors who are in the tech sector don’t want to be in other sectors--like blue chips--that may offer lower risk but also lower potential rewards.
That may be a reasonable argument, other analysts say. Certainly, small and large investors alike in recent months have become fervent believers in the long-term appeal of technology. Few other industries, after all, offer such potential for growth.
Last August, just as many analysts were giving up on beaten-down Internet names, the stocks began a run that carried many to new highs within several months.
But if money is going to go hunting for tech stocks again soon, it’s likely to focus first on the less-risky, already profitable giants of the industry such as Intel, Cisco Systems and Oracle, many experts say.
Whenever the market stabilizes and begins to rebound, large-cap tech stocks will lead the way because investors’ comfort level with those names is highest, says Doug Foreman, who, with Chris Ainley, manages the TCW Galileo Smallcap Growth fund and TCW Galileo Aggressive Growth fund.
“You will see the large-cap, no-brainer investments do two things: They’ll hold up better on the way down than the less-seasoned companies, and once the correction ends, those stocks [will be] the first to recover,” Foreman said.
“And then, six or 12 months goes by, everybody gets a lot of confidence, and then the small- and mid-cap stocks will make a killing” again, Foreman says.
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Reverse Momentum?
The hottest mutual funds in January and February--including the Van Wagoner Technology Fund--turned ice-cold in mid-March as “momentum” investors suddenly dumped many of thetechnology shares that had been leading the market higher. But many tech fund managers insist this pullback is only temporary. Weekly net asset value per share for the Van Wagoner Techfund:
*
Friday: $66.15
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Source: Bloomberg News
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Major Tech Names: Barely Bowed
The largest tech stocks have pulled back from their peak prices of the first quarter, but not by much. The stocks’ price-to-earnings (P/E) ratios are well below those of many smaller momentum stocks, though still far above the blue-chip market average P/E.
*--*
P/E on 52-wk. Mon. Drop est. Stock high close from high ’00 EPS Motorola $184.63 $138.25 -25% 43 Microsoft 119.94 90.88 -24 54 Applied Materials 110.00 89.25 -19 44 Sun Microsystems 106.75 89.81 -16 99 Hewlett-Packard 155.50 132.56 -15 38 Oracle 90.00 76.88 -15 130 IBM 139.19 122.00 -12 28 Nokia 233.38 205.75 -12 72 Cisco Systems 82.00 72.94 -11 72 Apple 150.38 133.31 -11 39 Dell 59.69 53.38 -10 59 Intel 145.38 130.63 -10 46 S&P; 500 index 1,527 1,506 -1 27
*--*
Sources: Bloomberg News, Zacks Investment Research (earnings estimates)
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Momentum Stocks: The Damage So Far
Many investors who bought the hottest technology-related momentum stocks in February or early March have suffered huge losses-if they’ve held on. The most beaten-down stocks may now have trouble rallying, despite continuing investor excitement over the tech and biotech sectors, experts say. Even with the most recent price declines, many of these stocks sell for price-to-earnings (P/E) ratios of 200 or higher based on estimated 2000 earnings per share (EPS).
Stock: Protein Design
Ticker symbol: PDLI
52-wk. low: $14.13
52-wk. high: $338.00
Mon. close: $73.06
Drop from high: -78%
‘00 est. EPS: -$0.37
P/E: NA
*
Stock: Abgenix
Ticker symbol: ABGX
52-wk. low: 12.75
52-wk. high: 413.00
Mon. close: 130.13
Drop from high: -68
‘00 est. EPS: -0.63
P/E: NA
*
Stock: Human Genome
Ticker symbol: HGSI
52-wk. low: 17.00
52-wk. high: 232.75
Mon. close: 82.06
Drop from high: -65
‘00 est. EPS: -1.09
P/E: NA
*
Stock: Emulex
Ticker symbol: EMLX
52-wk. low: 7.75
52-wk. high: 225.50
Mon. close: 83.19
Drop from high: -63
‘00 est. EPS: 0.66
P/E: 126
*
Stock: Next Level Comm.
Ticker symbol: NXTV
52-wk. low: 46.06
52-wk. high: 202.00
Mon. close: 87.56
Drop from high: -57
‘00 est. EPS: -0.80
P/E: NA
*
Stock: Tibco Software
Ticker symbol: TIBX
52-wk. low: 6.56
52-wk. high: 147.00
Mon. close: 67.81
Drop from high: -54
‘00 est. EPS: 0.02
P/E: 3,390
*
Stock: QLogic
Ticker symbol: QLGC
52-wk. low: 14.38
52-wk. high: 203.25
Mon. close: 103.06
Drop from high: -49
‘00 est. EPS: 0.90
P/E: 115
*
Stock: Wireless Facilities
Ticker symbol: WFII
52-wk. low: 37.00
52-wk. high: 163.50
Mon. close: 92.75
Drop from high: -43
‘00 est. EPS: 0.49
P/E: 189
*
Stock: Redback Networks
Ticker symbol: RBAK
52-wk. low: 32.50
52-wk. high: 397.00
Mon. close: 238.69
Drop from high: -40
‘00 est. EPS: 0.34
P/E: 702
*
Stock: Equant
Ticker symbol: ENT
52-wk. low: 72.25
52-wk. high: 132.00
Mon. close: 81.94
Drop from high: -38
‘00 est. EPS: 0.40
P/E: 205
*
Stock: PMC-Sierra
Ticker symbol: PMCS
52-wk. low: 17.69
52-wk. high: 255.50
Mon. close: 169.63
Drop from high: -34
‘00 est. EPS: 0.72
P/E: 236
*
Stock: SDL Inc.
Ticker symbol: SDLI
52-wk. low: 19.38
52-wk. high: 244.75
Mon. close: 176.56
Drop from high: -28
‘00 est. EPS: 0.73
P/E: 242
*
Stock: JDS Uniphase
Ticker symbol: JDSU
52-wk. low: 12.81
52-wk. high: 153.38
Mon. close: 111.63
Drop from high: -27
‘00 est. EPS: 0.36
P/E: 310
*
Stock: Juniper Networks
Ticker symbol: JNPR
52-wk. low: 30.00
52-wk. high: 312.94
Mon. close: 233.00
Drop from high: -26
‘00 est. EPS: 0.14
P/E: 1,664
*
Stock: ISS Group
Ticker symbol: ISSX
52-wk. low: 20.00
52-wk. high: 141.00
Mon. close: 109.38
Drop from high: -22
‘00 est. EPS: 0.34
P/E: 322
*
Stock: Nasdaq composite
Ticker symbol:
52-wk. low: 2,345.61
52-wk. high: 5,048.62
Mon. close: 4,223.68
Drop from high: -16
‘00 est. EPS: NA
P/E: NA
*
Sources: Bloomberg News, Zacks Investment Research and IBES International (earnings estimates)
NA = not applicable
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Mutual Momentum
The market tumble in recent weeks has slowed momentum across the stock market, but the mutual funds on this list have either maintained their pace or slowed relatively less than others. To identify funds with performance momentum, The Times asked Morningstar to find the 200 mutual funds with the highest returns in the last six months, then pare the list down to identify the funds that tended to improve performance during the six months by measuring performance over three rolling three-month periods. (See note below.) The funds were then ranked by one-month performance.
(see Editorial Art database in Mediasphere)
