Seek Shelter in Tech Funds, as Long as You're Patient

Tech funds are not for the timid or impatient.

True, funds specializing in high-tech businesses have been going gangbusters this year—averaging returns of almost 13 percent, far outpacing the 5.75 percent gain tallied by the broadest stock fund, according to Lipper. And those brave souls who invested when things looked bleak early this decade have been handsomely rewarded. Since 2002, tech funds have averaged returns of more than 16 percent a year, at least 2 points above the Dow Jones Wilshire 5000 index.

But measured over the past decade, tech is a darker story. The millions of investors who became infatuated with tech during the boom of the late 1990s are still suffering heartbreak. While the most diversified equity funds have now recovered their losses from the bear market that followed that boom, tech funds fell more steeply and haven't climbed back; even with the recent rally, many tech fund investors are still down by half.

Mindful of that long-term performance, managers of some of the hottest tech funds warn away clients hoping for quick gains in, say, junior's college fund. "If you did that in 1999, you'd have to say, 'Jim, when you're 30, you can go to college,' " says Kevin Landis, whose FirstHand Tech Value fund lost about 50 percent in 2001 and again in 2002—but is up more than 30 percent over the past 12 months.

Landis, whose value portfolio is priced at 23 times earnings—a premium over the broad market average of 15.6—says tech fund investors should realize they are paying for growth prospects. One of the value fund's biggest holdings, Cypress Semiconductor, is being valued by the market at only about $4 billion, even though it is sitting on about $800 million in cash and owns 50 percent of a solar technology company valued at $6 billion, Landis notes.

Tech investors are also paying for a possible buffer against other economic cycles, such as a real-estate bust, says Chris McHugh, whose five-star Turner New Enterprise fund is up more than 38 percent in the past year. That's because tech is resistant to problems such as the subprime meltdown, which has forced many financial and real-estate companies to slash their earnings and outlooks. Booming global demand for replacement computers, new cellphones, and online services, by contrast, has pushed tech company earnings up faster than analysts had expected. "People thought Google's IPO [closing price of $100] was nuts," McHugh points out. But the stock is now trading above $500. And Google says advertising revenues are growing at 40 to 50 percent a year. That makes the stock's current P/E ratio of 25 times next year's projected earnings look downright cheap, McHugh believes.