The Only 10 Tech Stocks You'll Ever Need

"If I have seen farther it is by standing on the shoulders of giants." -- Isaac Newton

What if every quarter, you could poll the world's foremost hedge fund managers for the tech stocks among their 20 largest holdings? Using AlphaClone, an online hedge fund research and investment management firm I founded in 2008, we can summarize the tech stocks that appeared most often at rank 20 or higher in the portfolios of the roughly 180 hedge funds tracked by the service.

The list, ranked by popularity, is probably not surprising to you:

  1. Apple (Nasdaq: AAPL  )
  2. Microsoft (Nasdaq: MSFT  )
  3. Google (Nasdaq: GOOG  )
  4. Cisco (Nasdaq: CSCO  )
  5. Qualcomm (Nasdaq: QCOM  )
  6. Oracle (Nasdaq: ORCL  )
  7. Xerox (NYSE: XRX  )
  8. Baidu (Nasdaq: BIDU  )
  9. Intel (Nasdaq: INTC  )
  10. Hewlett-Packard (NYSE: HPQ  )

Apple has not only been the most popular tech stock amongst AlphaClone's hedge fund universe, it has been the most popular stock period. The company continues to churn out category-defining products and services and is trading at a relatively cheap 16 times forward earnings estimates, with more cash on its balance sheet than it (currently) knows what to do with. Take a picture with your iPhones -- this is one of those rare times where the "smart money" and the "rest of us" see eye to eye on a stock.

Microsoft, ironically, is the second most popular tech stock on the list. Despite concerns about new devices such as the iPad winning share in the PC market, the company recently reported strong third-quarter results, with revenues rising 25% and net income increasing 51%. Microsoft reported strong sales across all divisions, including its enterprise division.

Looking further down the top 10 list, Baidu is a rocket ship if there ever was one. The stock returned 200% in 2009, and just when you thought it was time to get off, it's returned another 100% this year. The company owns 64% of the Chinese search market but is likely to meet stiff competition from Google (No. 3 on the list) now that its license to operate in China has been renewed. Also distressingly, the stock has recently received an ominous two-star rating on Motley Fool CAPS. It will be interesting to see if Baidu remains on this top 10 list the next time it's updated in mid-November.

If you already own these stocks, use the list as proof that you've chosen well. (Disclosure: AlphaClone is an investment manager and holds many of the stocks above in client investment accounts.) If you are bearish on any of these stocks, you may use the list as proof that the trade is "overcrowded" and, thus, validation for your short thesis. The list above is just that -- a list of popular hedge fund tech stocks. By itself, it's not very useful except for maybe as a mirror for investors to see their own validation.

But what if there were a way to turn anecdotal information into useful investment knowledge? Also using AlphaClone, we can transform the static basket of stocks above into an investment strategy and backtest its performance over time -- we call this "cloning." In short, how have the most popular tech stock holdings by hedge funds performed over the past 10 years? Here's what the backtest simulations assume:

  • The portfolio's holdings and weightings are updated (or rebalanced) each quarter based on the latest quarterly batch of hedge fund public disclosures as required by the SEC. No trading occurs between update periods.
  • Each quarter, investment is made five trading days after hedge fund managers make their disclosures.
  • Your portfolio is "popularity weighted" (i.e., a stock held by 10 managers has twice the weight of a stock held by 5).

Using the above approach, we see the strategy outperforms the S&P 500 Information Technology index by 87 percentage points since 2000 and at a lower overall volatility! That's some Foolish feat considering the two "end of world" market corrections since 2000. In 2010, the strategy is also performing well, returning 18% vs. 13% for its benchmark index.

AlphaClone "Sector Picks": Technology Fund Group

1 Year

3 Year

5 Year

Max

Volatility (max)

Top 10 Popularity 18.4% 15.4% 102.1% 34.3% 26.5%
S&P 500 Information Technology Index 12.9% (7.1%) 22.4% (53.0%) 29.7%

Total returns (gross). From 1/1/2000 to 10/26/2010.

The value of the backtest performance above is that it places the list of stocks at the beginning of this article into context. Now, in the future, when we write about the most popular tech stock in AlphaClone's universe, maybe you Fools will find it important to pay closer attention.

Maz Jadallah is the founder and CEO of AlphaClone LLC, a San Francisco-based research and investment management firm that tracks hedge fund public disclosures. For more information on the firm's investment approach, click here to visit AlphaClone.

Maz Jadallah doesn't own shares of any of the companies mentioned in this article. AlphaClone LLC is an investment manager and currently holds shares of Apple, Microsoft, Google, Xerox, Baidu, and Hewlett-Packard in client investment accounts.

Backtesting is the process of evaluating a core strategy by applying it to historical data. AlphaClone performance backtests include the impact of holding currently inactive securities, thus avoiding survivor bias. Backtested performance results are provided for purposes of illustrating historical performance had a core strategy had been available during the relevant period. Backtested performance results are hypothetical and have inherent limitations. AlphaClone makes no representation that any core strategy will achieve performance similar to any backtested performance results. Actual results could differ materially from backtested performance and future results could differ materially from backtested performance. Past performance is no indication or guarantee of future results.

Google, Intel, and Microsoft are Motley Fool Inside Value selections. Baidu and Google are Motley Fool Rule Breakers picks. Apple is a Motley Fool Stock Advisor recommendation. The Fool has written calls (Bull Call Spread) on Cisco Systems. Motley Fool Options has recommended buying calls on Intel. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of Apple, Google, Intel, Microsoft, Oracle, and QUALCOMM. The Motley Fool has a disclosure policy.


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