Long-Term Opportunity in Tech Sector Volatility
The technology sector seems to have again demonstrated just how frustrating markets can be. An investor favorite last year, the sector has been volatile in the first part of 2014, leading some to believe a tech bubble could be brewing—or perhaps a slow leak has already begun. Matthew Moberg, portfolio manager for Franklin DynaTech Fund, says he doesn’t pay much attention to semantics or speculation. He’s busy looking for companies that he believes have staying power and growth potential beyond temporary trends. And, he says he’s using recent volatility as an opportunity to find undervalued companies that he thinks fit that profile.
We definitely have seen some volatility in the tech sector this year. It does not affect our view of the bigger picture; we continue to see very exciting things happening in the tech sector. A company’s stock price doesn’t always match the fundamentals we see. One example has been Salesforce.com,1 which went public 10 years ago this month. Five times during the past 10 years its stock has experienced a price decline of greater than 50%. And yet, the company’s revenue has grown over the past 10 years.
During periods of volatility, we are looking for opportunities that we believe should pay off over the long term. But what we’re really looking for are solid fundamentals. During the most recent earnings season, a lot of companies reported that they had experienced large share price declines, but when we listened to their earnings calls and we heard the earnings reports, often we found the businesses were doing quite well. That’s where we find potential opportunity: when we find a company that is being punished by broad market moves, but appears to us to have sound financial and growth metrics. We are bottom-up stock pickers and follow a fundamental approach. We turn to the 34 analysts in the Franklin Equity Group in search of investment ideas for our portfolio. One of the things we look for first and foremost in a company is good long-term prospects.
Evaluating Growth: Sustainability and Adoption
There are a lot of ways we can find undervalued companies, but the two most frequent characteristics we are searching for are the sustainability of growth and the adoption of growth. What I mean by sustainability is whether the company can continue to grow, not just in year one, but in years three, and five and 10. We often ask ourselves: “Will this company be relevant in the long term?” To answer that question, we focus on companies with innovative products that are driving change in the marketplace, in our view. An example of a company we believe possesses sustainability of potential growth is Google,2 which went public in 2004.
I also referred to the adoption of growth; as the economy continues to become more global, we see accelerating adoption of growth in certain segments of the market. We believe Facebook3 represents this concept well. Facebook launched mobile advertising in the second quarter of 2012, and in less than two years, this business segment grew to 59% of the company’s revenue.4 With flat growth in the rest of its business in 2013, Facebook’s overall growth was truly driven by the rapid adoption of growth in mobile.
We also frequently look for new investment ideas on the 52-week high list; that is, stocks trading at their highest level in 52 weeks. We seek to identify companies with new products that have been successful, or are pushing change. Using our fundamental research, we also examine our current holdings for those that may be experiencing negative change. And again, we look out on a three, five and 10-year basis, examining whether a particular company is advancing as our models indicate it should.
We may sell or trim a security in a company that is experiencing a negative change. As a layer of risk management, we also look at stocks that are 25% off of their highs and determine whether to hold our position or sell. Again, it’s all based on fundamental research. We are continually analyzing each security.
We also like to look beyond what many investors traditionally think of as “technology” companies, such as Internet or software providers. Franklin DynaTech Fund is focused on dynamic technologies. We view “dynamic” as an agent of change, and “technology” as the application of science. Another way we think of it is looking for the most innovative companies in the economy. These are the companies that are pushing for progress and pushing for change. That has been the fund’s mandate for 46 years, since its founding in 1968. We think we can find these companies in any industry in the economy, not just in the technology sector in its traditional sense.
New technologies and innovations are constantly being developed in many industries. One that I find particularly interesting is in deep sea drilling, where oil can be extracted miles beneath the surface. Another is shale gas, which can be obtained by drilling some 10,000 feet underground vertically, and then another 10,000 feet horizontally.
We’re finding innovation in a lot of places: We’re finding it in aerospace, in financial services and in agriculture; there is a lot of science that goes into gene-mapping to find new types of corn and soybeans that will be disease- and drought-tolerant.
We also are finding innovation in health care, particularly in the biotech space. We focus on companies that are trying to find new products and new drugs. For example, Gilead Sciences5 has a new product that essentially cures Hepatitis C. That’s an incredible achievement. We’re also looking for companies that are taking costs out of the system, such as generic drug manufacturers, because that’s where a lot of the pressure is. Health care information technology also can contribute to more efficient and cost effective care; instead of having that proverbial paper chart at the end of your bed, you actually have your entire medical history in portable electronic form.
Matthew Moberg’s comments, opinions and analyses are for informational purposes only and should not be considered individual investment advice or recommendations to invest in any security or to adopt any investment strategy. Because market and economic conditions are subject to rapid change, comments, opinions and analyses are rendered as of the date of the posting and may change without notice. The material is not intended as a complete analysis of every material fact regarding any country, region, market, industry, investment or strategy.
What Are the Risks?
Franklin DynaTech Fund
All investments involve risks, including possible loss of principal. The fund’s investments in fast-growing industries, including the technology and healthcare sectors (which have historically been volatile) could result in increased price fluctuation, especially over the short-term, due to the rapid pace of product change and development and changes in government regulation of companies emphasizing scientific or technological advancement or regulatory approval for new drugs and medical instruments. The fund may also invest in small- and mid-capitalization companies, which can be similarly sensitive to changing economic conditions, and their prospects for growth are less certain than those of larger, more established companies. These and other risk considerations are discussed in the fund’s prospectus.
1. As of 03/31/14, Salesforce.com Inc. common stock represented 1.06% of net assets of Franklin DynaTech Fund. Holdings are subject to change without notice.