Taking Stock: Guarded Optimism For Tech-Stock Recovery In Latter Part Of Year

We already know that 2001 was a dismal year for technology. The InformationWeek index was down more than 25% through mid-December. This was actually a great improvement over the end of third-quarter 2001 index performance of-49%. The most disappointing sectors were enterprise software (for example, Openwave Systems,-88%; Ariba,-90%; Siebel Systems,-90%; WebTrends,-99%), telecom equipment vendors (Nortel Networks,-77%; Ciena,-82%; Juniper Networks,-83%), and the various bankruptcy cases (for example, Exodus,-99%).

There were some winners, amazingly enough. In general, the biggest winners were business-continuity services, security software, and outsourcing companies. Some of the best performers in these categories included Storage Technology, +143%; Symantec, +102%; and Keane Inc., +90%.

But enough history. It's time to get out my famous (or more correctly, infamous) crystal ball. As usual, the ball is as clear as mud. We already know that corporate IT spending is expected to remain sluggish during the first quarter. Any view beyond that is usually met with a shrug indicating that it's too early to say.

The two little words that will get any IT manager excited this year are "quick payback." Almost anything getting done this year will probably have that characteristic unless it has an overriding strategic priority, such as security.

Like most investors, I'm hoping that technology stocks hit bottom in the fourth quarter of 2001. But, unlike many Wall Street strategists, I expect any rebound will be slow and modest, at best. There will still be areas of technology that should generate excitement, and some may even generate rising profits and share prices.

After Sept. 11, security will remain a very hot topic. However, despite innovations in biometrics, implementation of some of these leading technologies will take time--and we won't even talk about profitability. Stick to the tried-and-true products and companies: antivirus, firewalls, security services, and security-management software. Names such as Check Point, Internet Security Systems, Network Associates, and Symantec come to mind. My speculative choice remains Identix, a leading biometrics company. I'm betting that most projects are involved in improving security, not blind innovation.

While systems-integration companies did well last year, one trend that will continue is business-process outsourcing, where large consultants and systems integrators remain in the driver's seat. Companies such as Accenture, Affiliated Computer Services, Computer Sciences, EDS, and IBM will probably lead the pack. Success in business-process outsourcing will occur in both the private and public sectors as larger government contracts come to market.

Third, many IT managers will focus on internal product development. Most of these projects will be to improve applications and systems implemented in prior years. For example, PeopleSoft and SAP are seeing more interest in their vertical applications. Developers still require testing software such as that sold by Mercury Interactive and Rational Software.

Finally, I expect disaster recovery, business continuity, and data backup will remain on the list of IT demands for 2002. I still like SunGard Data Systems, not only for its disaster-recovery business but its strong financial-software business. Business continuity will benefit both outsourcing companies and related software, services, and backup vendors. Mid-and low-range storage will be in demand. This should help boost the fortunes of Network Appliance, Sun Microsystems, and Veritas Software.

This list isn't exciting. My enthusiasm is tempered because technology stock prices have gotten ahead of themselves across the board. Remember, you want to pay reasonable prices for growth prospects, not absurd ones. "Don't overpay" should be every investor's mantra. I look forward to the technology recovery in the latter part of this year and, with it, modest share-price recovery. After 2001, 15% to 20% would look great to me.

WILLIAM SCHAFF is chief investment officer at Bay Isle Financial Corp., which manages the InformationWeek 100 Stock Index. Reach him at [email protected].

To discuss this column with other readers, please visit William Schaff's forum on the Listening Post.

To find out more about William Schaff, please visit his page on the Listening Post.