Beat the recession with tech funds

By Tim Middleton

Consumer spending, the engine of the U.S. economy, is slowing. But Apple (AAPL, news, msgs) is sold out of iPhones, and Research In Motion (RIMM, news, msgs) is promising a rival touch-screen product called Thunder that has raised a storm of excitement among BlackBerry users.

"I have a BlackBerry, and I'm a big fan," says Nick P. Calamos, a co-manager of Calamos Value Fund (CVAAX), which has both Apple and Research In Motion among its top 10 positions.

These and other technology stocks have made the sector the dominant one in Calamos' portfolio. The manager, whose approach to investing is to buy "50-cent dollars," has been bulking up on tech for months.

"We like what we see from a valuation standpoint," he says. "Also, from a capital spending standpoint, businesses will continue to spend to offset unit labor costs because they'll be under pressure on wages. That will benefit the Ciscos (CSCO, news, msgs) and Microsofts (MSFT, news, msgs) and Dells (DELL, news, msgs)." (Microsoft is the publisher of MSN Money.)

Indeed, though tech may not avoid the recession entirely, there's ample evidence that it will lead the way out of it. People may be giving up meals out and driving less, but few seem to be going without cell phones or the Internet.

The numbers thus far support the theory.

After the stock market bottomed in January, technology caught fire, with the average tech-sector mutual fund ahead 9.5% in the three months ending May 20, according to Morningstar. Only red-hot energy funds and long-suffering real-estate funds have done better.

Better than they seem

Like many investors who got scorched in technology's collapse after Y2K, I've been leery of the group ever since. Many big names have underperformed. Stock in Dell, another of Calamos' top holdings, has dropped 35% over the past five years while the market has advanced nearly 50%. Microsoft has moved up just 15% in the same period.

But low prices create 50-cent dollars, or stocks selling at a huge discount to their intrinsic worth. Christopher McHugh, the manager of the Turner New Enterprise Fund (TBTBX), says, "Valuations in technology overall are looking pretty attractive."

Even better, he adds, "When we got into earnings season we discovered things weren't as bad as the headlines would suggest."

Tech-sector funds such as Turner are the logical choice for aggressive investors who want to make money on more than just their oil stocks. Exchange-traded funds such as Select Sector SPDR-Technology (XLK, news, msgs) are perfect trading vehicles. Long-term investors can choose diversified funds like Calamos that are willing to make major sector bets but are free to move among sectors at will. Aside from energy, no sector in this decade has shown consistent leadership.

Turner gets back to tech

I identified the Turner fund as an outstanding candidate with MSN Money's Deluxe Fund Screener, searching the specialty-technology investment category for funds with a long-term manager as well as consistent top performance over the past five-, three- and one-year periods. (I put them in that order to give more weight to consistency and less to a recent winning streak.)

Click here to run a similar screen yourself.

McHugh has been at the helm of Turner New Enterprise for eight years, consistently leading it into the top 10% of similar portfolios. The compact portfolio, of about three dozen names, includes a few of the usual suspects, including Research In Motion, but has most of its money in areas decidedly distant from computer hardware and software.

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Top names include biopharmaceutical company Gilead Sciences (GILD, news, msgs), apparel maker Guess (GES, news, msgs) and agricultural products giant Monsanto (MON, news, msgs). The fund's average market capitalization is around $10 billion, nearly in the midcap space. Turnover is brisk, running about 175% in the past year.

But recently, McHugh says, his priorities have shifted to more-traditional tech-fund arenas: "storage, mission-critical applications and infrastructure; they are the main areas of focus."

"Relative to other sectors such as financial services, the consumer and industrial markets, technology earnings growth is going to look quite attractive in sequential and year-to-year standpoints," McHugh says.

Calamos studies up

Calamos Investments began as a specialist in convertible securities -- bonds that in the right circumstances can be exchanged into stock. That background has taught it to study a company's balance sheet just as thoroughly as its income statement.

In analyzing his investment in Dell, Calamos says: "From a free-cash-flow standpoint, it's throwing off $2 a share. That's almost a 10% yield on free cash flow. They're retiring 3% to 4% of their stock every year. They have natural growth in the 3% to 4% range. So the potential return here is 18% to 20%. We've got a growth bond here, yielding better than most high yield bonds, and the company's growing."

"Technology is probably our favorite sector," McHugh says, and it now accounts for 27% of fund assets. "But it would be awful hard not to have exposure to the financials. Both they and tech are undervalued."

Calamos has 19% of assets in financial names such as JPMorgan Chase (JPM, news, msgs) and American International Group (AIG, news, msgs).

Like the Turner fund, Calamos Value owns around three dozen names and has 40% of assets in the top 10. Turnover is much slower, however, at 30% of holdings each year.

Getting in cheaper

Calamos is a broker-sold fund and imposes a 4.75% front-end load on its A shares. It also has a 1.46% expense ratio. Turner, a no-load, charges 1.27% in annual expenses.

A thriftier alternative, especially for more-active traders, is the technology ETF. Its expenses are a mere 0.24%, and the only other charge is trading commissions, as with common stocks. This is an index fund that has 82% of assets in information technology and the balance in telecommunications.

Top holdings are Microsoft, AT&T (T, news, msgs), Cisco Systems, Apple and Google (GOOG, news, msgs).

Despite lower expenses, however, the ETF has underperformed both actively managed mutual funds over the past five years. As of May 20, its annualized return in that period was 10.6%, compared with 11.2% for Calamos and 19% for Turner (after expenses.)

Indexing zealots claim active management can't beat the market, but it regularly and consistently does. Still, the ETF does capitalize on trading opportunities because it offers undiluted exposure to the asset class -- in this case, nothing but tech. And over the past three months, its 11.3% return has dwarfed Turner's 4.9% gain and the 2.5% advance of Calamos Value.

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So if you are playing the rally in technology, the ETF is your choice. For a longer-term commitment, the mutual funds are clear winners.

We fund investors are lucky to have this many choices.

At the time of publication, Tim Middleton did not own or control shares of any company or fund mentioned in this column.