We're Dueling over tech stocks this week on Fool.com. In this article, Fool contributor Tim Beyers says tech stocks should be a part of everyone's portfolio. But Richard Gibbons says investors should beware of the tech sector. Read them both, and then vote for your favorite.
I admit it. I didn't invest during the bubble years of the late 1990s. Back then, we were deep in debt, and I followed the Foolish advice to pay off debt before plunking down one red cent in a taxable brokerage account. The lone exception was some stock I picked up during a short-lived gig at Sun Microsystems (Nasdaq: SUNW ) .
You might say I was one of the lucky ones. While others were hopelessly betting on profitless "New Economy" stalwarts like Akamai (Nasdaq: AKAM ) , now a dot-com survivor, we were plowing cash into reducing debt. My stomach and wallet are probably better off for having skipped the roller coaster of the dot-com days, although I wasn't totally immune. Our Sun stock grew to be a 16-bagger, but like so many others, I watched it crater to a mere 30% gain before selling.
Yeah, that's right. I've been burned by a tech stock. So what am I doing writing the bull case for investing in tech? Because, when it comes to stocks, I believe in diversifying among a broad mix of companies and industries. Ignoring an entire high-growth sector of the market makes zero sense to me.
Are there problems with tech stocks? Of course. Heck, I've written about Intel's (Nasdaq: INTC ) problems over and over. I've also beaten up Yahoo! (Nasdaq: YHOO ) over stock options, and chided EMC (NYSE: EMC ) for its valuation. But you would be hard-pressed to find better, more profitable businesses in other industries. Indeed, investing in tech isn't some arcane practice only for the Silicon Valley cognoscenti. It's a core principle of Foolish diversification, and less risky than you think.
Let's talk risk
As fellow Fool Richard Gibbons writes in his counterpoint to this story, tech stocks are sometimes speculative investments. But as Benjamin Graham, mentor to superinvestor Warren Buffett of Berkshire Hathaway (NYSE: BRK.B ) , wrote in The Intelligent Investor, risk is relative to the price you pay for any security in any industry.
Need proof? Try this quiz: Which company had better returns from Jan. 1, 1999, to today -- eBay (Nasdaq: EBAY ) or General Electric (NYSE: GE ) ? While GE is admittedly one of the greatest and most stable businesses of all time, the winner is eBay, a three-bagger compared to GE's loss of a little more than 1%, and that's with dividends reinvested. By taking on greater risk by investing in small but profitable eBay, you would have at least tripled your money. (No wonder fellow Fool Rick Munarriz has asked for CEO Meg Whitman's hand in marriage!)
It's easy to say that the bubble years were home to sock-puppet valuations and ridiculous multiples, lamenting all the while that no real value was created. But that's crazy. Let's go back to eBay for a prime example. Dozens of businesses are turning to the online auction model pioneered by eBay to sell off excess inventory, or to streamline procurement of new goods. Also, some estimates peg the number of people adding to their income through eBay at more than 400,000. No wonder the company remains one of David Gardner's biggest winners for Motley Fool Stock Advisor subscribers.
Remember, the 30 enduring businesses of the Dow Jones Industrial Average cratered along with everything else during the bear market. From its high of 11,723 in January 2000, the Dow dropped more than 25% over the next two years. Among the big losers on the index during that time was General Motors (NYSE: GM ) , which retreated a breathtaking 47%. The damage might have been much worse if not for reinvested proceeds from healthy dividends.
Again, remember Graham's core lesson: Risk is relative to the price paid for future cash flows. That goes for any security, in any industry, and makes mastering valuation key to your investing.
Love the moat
It's been said here time and again that it pays to invest in firms with moats around their sources of profits. Can you name a company with a better, more defensible niche in the history of American business than Microsoft (Nasdaq: MSFT ) ? I can't. But it's not like the Redmond software giant is alone in building a lasting tech franchise. Consider Oracle (Nasdaq: ORCL ) in databases, for example. Or how about Adobe (Nasdaq: ADBE ) in desktop publishing? Each of these firms has established technical specifications that customers have adopted for conducting business. Microsoft's Windows is the prime example, for it is widely considered the global standard for computer operating systems.
By setting the pace, Microsoft and others have tied their customers' business success to their technology, making the cost of switching to a competitor's product extremely high. That, in turn, helps generate massive cash flows. Maybe it's just me, but I love companies that pile up more moola with each successive year.
It's the Foolish thing to do
Finding smaller, undervalued tech stocks has been a winning strategy here at Fool.com for some time. Take, for example, two of Tom Gardner's picks for Motley Fool Hidden Gems subscribers: FARO Technologies (Nasdaq: FARO ) and Group 1 Software (Nasdaq: GSOF ) .
FARO was selected because its financial performance indicated an underlying strength not reflected in its stock price. The firm hasn't disappointed, up 120% since first selected for subscribers last October. Group 1, a turnaround candidate with a strong balance sheet, fit more with the value investing principles common to Graham and Buffett. It didn't take long for others to notice. Days after Group 1 joined the Hidden Gems ranks, Pitney Bowes (NYSE: PBI ) plunked down $321 million in cash for the firm, giving subscribers an immediate 50% gain.
Still think value can't be found in tech?
Wal-Mart: tech stock
Let's say for a moment that I've failed to convince you of the worthiness of tech stocks. So be it. But that means you'll have to forego any shares in Wal-Mart (NYSE: WMT ) . Forget McDonald's (NYSE: MCD ) , too. You see, both of them are huge consumers of technology, using kiosks, radio ID tags, and other breakthrough innovations to improve their margins. That's right; they're tech investors, and they're earning decent returns. A check of each shows Wal-Mart getting back 10 cents for every dollar invested in new assets like computer systems, while McDonald's gets back a little more than 6 cents.
Face it: Tech is all around. Avoiding it in your investing is like trying to go on an all-water diet. Maybe you'll lose some weight, but you won't be healthy or satisfied. So, go ahead, grab that bag of chips. I won't tell anyone.
Next: Read the bearish take on tech stocks.
Not unlike the X Files' Fox Mulder, Motley Fool contributorTim Beyersthinks the next Microsoft and Intel are out there, waiting to be found. In the meantime, he has high hopes for Akamai, in which he owns shares. You can join the search for the next great stocks by linking up with Tom Gardner and the Foolish band of analysts that produceMotley Fool Hidden Gems. Try it risk-free for 30 days. The Motley Fool has adisclosure policy.