Tech stocks may be set for a dive

By Charles Stein, Globe Columnist, 9/28/2003

For reasons too complicated too explain, I own some shares in Lucent Technologies. You can send sympathy notes to me at the e-mail address at the bottom of this column. I acquired my Lucent shares at about $8 apiece when the company was spun off from AT&T in 1996. I held on while the stock took off like a rocket ship to a peak of $63 in late 1999. And I kept holding on as the stock plummeted to a low of 58 cents last fall. Lucent has since rebounded to a lofty $2.25.

I wish I could offer a good explanation for why I didn't sell my shares on the way down. Something like: I was abducted by aliens; or I was in a coma for three years. The truth is more pathetic. I hung on because I was taught that is what you are supposed to do. Buy and hold. Dumb and dumber.

I recount this sad story because we may be in the early stages of another steep decline in the price of technology stocks, and investors may have to decide whether to hang on or bail out.

The Nasdaq Composite index, a proxy for tech stocks, reached 1900 a week ago, up roughly 50 percent from the lows touched in March. The Nasdaq has come down a bit in the past few days. At 1900 the Nasdaq was miles below the March 2000 high of 5048 but don't let those numbers fool you. "Since March we've been through the most speculative period in stocks I have ever seen," said Jerry Jordan, a veteran Boston money manager and the president of an investment firm that bears his name. "Some stocks are more overvalued today than they were in 2000."

The greatest excesses have come in the stocks of companies that aren't earning any money now and aren't likely to earn much next year. Sonus Networks fits the bill perfectly. Based in Westford, Sonus makes telecommunications equipment. Its stock has risen from 20 cents a share last October to just under $7 today. The company will lose money this year. Wall Street expects it to earn about $11 million next year. Yet Sonus has a market value of about $1.7 billion, which gives it a nosebleed price-to-earnings ratio of 155. The market norm is roughly 20. Higher ratios indicate greater optimism about the business' prospects.

Applied Materials, the leading supplier of equipment to the semiconductor industry, is also losing money and should be profitable next year. But when Shawn Kravetz, a hedge fund manager at Esplanade Capital, looks at Applied Materials' $30 billion market cap, he can't make the numbers add up.

"We are seeing the kind of market multiples we saw in 1999," said Kravetz. In 1999, high stock prices on the Nasdaq were based on the hope that technology was about to enter a golden age. Does anyone think that today? Corporate buyers of technology are still trying to digest all the equipment they bought in the boom years. A recent report from Goldman Sachs detected little evidence that those buyers were ready to open the purse strings. Telecom companies, such as Verizon Communications, once the most voracious consumers of tech gear, are still scaling back their capital expenditures.

Now comes the hard part. If you think, as I do, that tech stock prices are way overvalued, what do you do about it? We've all been conditioned not to sell. What if tech stocks aren't overvalued? What if Sonus is the next Microsoft and $7 is just a stopping point on the way to $100? As Joey Anuff, the author of "Dumb Money," a very good book about stock trading put it, when it comes time to pull the trigger, "The sheer unknowability of the future gets in the way."

So selling is risky. But so is holding on. If we've learned anything in the past few years it is that stocks can't stay aloft on wishful thinking alone. Eventually, whenever that is, the fundamentals will assert themselves. If I owned some of the high-fliers that have soared since March, I'd sell some stock, take some profits and consider myself fortunate.

I'm even thinking of selling Lucent. If I'm lucky I could take a few friends out to eat at McDonald's with the proceeds.

Charles Stein is a Globe columnist. He can be reached at stein@globe.com.