(PUB) Investing 2015

SEASONALITY Tech Winter: When Active Wins

search suggests that others have either ignored or missed the phenomenon completely. So, why is technology historically hot during these coolest of months? While it may seem strange that tech stocks follow a seasonal pattern, there are actually a number of factors I’ve found that can explain the outperfor- mance. The first has to do with fourth-quarter spending by corporations. Information technology managers (the guys and gals who tend to your in-house desktop and myriad other corporate comput- ing functions) usually hold back some of the money in their budgets during the course of the year in case of a late emergency, or to spend on some tech- nological innovation or product that becomes necessary for the company to stay competitive as the year progresses. A company, for instance, may take months to decide that yes, they do want salespeople to carry the new iPad, or that a new cyber-security system must be put in place, but when the decision is made, the buying must begin imme- diately, or someone’s head goes on the block. As the calendar draws closer and closer to year-end, there may be unspent money that needs to be used. Why? Because the tech managers know that next year, come budget allocation time, if they have something left over from the previous year, they’re likely to see those budgets cut. They don’t want that, so they spend liberally in the year’s final months, upgrading a server here or an office full of smartphones there. That spending also has tax implica- tions for companies that want to cut down on what they owe the government. Whatever the rationale, this spending surge, referred to by its practitioners as a “budget flush,” is often noticed in the markets. And the tech stocks that are expected to benefit from this sea- sonal year-end spending begin rising on expectations of increased earnings

AS SURE AS COLD WEATHER returns to northern climes in November, so does a hot season for technology stocks. The November to February period I refer to as TechWinter is upon us, and on a valuation basis, big techs still look rel- atively good despite this year’s market- beating performance by Information Technology ETF , up 6.8% through the end of October versus a 1.8% gain for Total Stock Market Index . Last year I told you pretty much the same thing. Tech stocks looked, on the whole, to be pretty good val- ues, and over the ensuing four-month Tech Winter from November through February, tech indeed outperformed quite handily. If we’re to see a repeat, then, would I advise that you simply buy Vanguard’s tech index fund or its ETF twin? Not a chance. Passive investment strate- gies tied to technology don’t always show their best sides during the season- ally strong Tech Winter, when the stocks of companies involved directly in the digital revolution typically exhibit good relative strength. Based on that record, it pays to go active. When you look back over 23 dif- ferent Tech Winter periods (the data for MSCI’s tech index, the bogey for Information Technology Index , only goes back that far), it has not paid to be a tech-only indexing investor—Vanguard funds with heavy allocations to tech have consistently outperformed the market, while Information Technology Index has not. It may be hard to see in the chart on this page, but the tech index has nicely outperformed the market over the full 23-year period (by almost 2 percentage points per annum) despite the calamity of the bursting of the tech bubble in 2000, but its record during the four-month Tech Winter is not con- sistent. Though pronounced prior to the tech bubble, the index’s market-beating ways during Tech Winter haven’t held a can- dle to the performance posted by some

Over 23 TechWinters , Index Only Outperformed in 10

0.75 1.00 1.25 1.50 1.75 2.00 2.25 2.50 2.75 3.00 3.25 3.50 3.75

Tech Winter: November–February MSCI Technology Index vs. Total Stock Market

10/93

10/95

10/97

10/99

10/01

10/03

10/05

10/07

10/09

10/11

10/13

10/15

of the active managers running typically tech-heavy Vanguard funds.

Tech Winter Heating Up The coming Tech Winter remains a toss-up between the active and passive portfolios, as the tech index’s largest company, Apple, has outperformed so far in 2015. But I’m not that concerned about the index doing well or not, because I believe we have plenty of top, hand- picked technology stocks in our port- folios. Between Capital Opportunity , Dividend Growth and Selected Value in the Growth Model Portfolio , for example, we have a bit more than Total Stock Market Index’s 16.0% weight in tech—and don’t forget that’s well- chosen tech, not index tech. So, as in years past, I’m loath to make trades to reallocate for the months ahead. Still, it’s worth keeping your eye on this seasonal tech ball, since, relative to the overall market, technology can have an outsized impact on our returns. As always, before I get into the nitty-gritty of the numbers, let’s talk a bit about what this Tech Winter thing is and why it occurs. Let me start by saying that I take full responsibility for coining the term “Tech Winter” to refer to the four-month period between the end of October and the end of February. I know you won’t find it list- ed on Wikipedia , and a quick Google

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