Are Internet mutual funds going the way of dot-com companies and IPOs?
It turns out that the mutual fund, a stable entity investors look to as a haven from the risks of individual stocks, is also subject to the whims and marketing caprice that helped create dot-com mania. And now that Internet stocks are dying, the mutual funds created to cash in on dot-com euphoria can't be far behind, analysts said.
The demise shouldn't be too surprising. Like the dot-com companies they invested in, Internet mutual funds have posted some of the worst returns for the past year. In addition, these funds are struggling to bring in the cash needed to grow.
In 1999, there were just four Internet funds. By early 2000 that number had jumped to 40. In 2001, Internet funds are closing, changing their names and trying just about anything to stay afloat.
"About half of the 40 will make it," said Lawrence York, manager of the WWW Internet Fund. And York is one of the more optimistic prognosticators.
Since last fall, three Internet funds have liquidated. The de Leon Internet 100, the Internet Index Fund and the Zero Gravity Internet Fund have all shut their doors.
What's in a name?
If funds aren't closing, they're at least distancing themselves from Internet investments. The Westcott Nothing But Net Fund morphed into the Westcott Technology Fund; the Monument Internet Fund became the Monument Digital Technology Fund; and the Investors Capital Internet Fund has been re-christened the Investors Capital Internet and Technology Fund. A fourth fund has just filed to change its name: STI Classic E-Commerce Opportunity Fund will become the STI Classic Information and Technology fund on June 1.
Will these new monikers keep these struggling funds afloat?
"I don't think so," said Christopher Traulsen, a senior analyst for fund-tracking firm Morningstar who specializes in Internet and technology funds. "These are acts of desperation."
"I think it's a mistake," said Ryan Jacob of the beleaguered Jacob Internet Fund, which is not changing his fund's name. "But a lot of these things are driven by marketing decisions. If they think the Internet moniker is a black eye, that's their decision."
Monument's name change was accompanied by a portfolio reshuffle, but its top positions--First Data (NYSE: FDC), the Nasdaq 100 and Verizon Communications (NYSE: VZ)--are still focused on the Internet to some degree.
"I wouldn't be surprised to see Monument go out," said Traulsen. The company recently raised its expense ratio--the fee a mutual fund charges in order to manage the portfolio, attract new investors and provide customer service--from 2.75 to 4.75, far above the average expense ratio of 1.78. That's a red flag and a sure sign "it doesn't have the financial muscle to support itself at this level," Traulsen said.
Even companies that don't change their names are shifting away from what's traditionally been known as the Internet sector. Enterprise Internet recently shifted into services without changing its name, and companies are calling almost anything in the technology world an Internet play now.
"Its getting harder and harder to tell Internet funds from broader technology funds," Traulsen said. "If Microsoft is an Internet stock, what isn't?"
The portfolio shifts aren't likely to make the funds any more attractive to investors. Analysts said it doesn't make sense to buy an Internet mutual fund that looks and acts like a broader tech fund. "If you want a telecom and media fund, why not just go and buy that?" Traulsen said.
On average, Internet funds are down 27 percent for the year, compared with the average decline of 7 percent for mutual funds overall, according to data from Lipper Analytical, a fund evaluation firm. That's an alarming drop, but it's not the worst of the funds' worries.
The break-even point for most funds is about $50 million in assets, analysts agree. And of the 27 funds tracked by Lipper, only five are above that mark--Enterprise's Internet fund A and B, at $63 million and $68 million, respectively; Kinetics Internet fund at $359 million; and RS Internet Age at $65 million. Twelve of the funds are well below the $5 million mark and aren't expected to attract more cash any time soon.
"Ultimately, funds need $50 million to $75 million to break even," said Don Cassidy of Lipper Analytical. Cassidy laughed off excuses that smaller funds have less overhead and therefore have a lower break-even point. Solitary funds, ones that don't come from a family like Janus or Putnam, will actually have a harder time surviving because they can't subsidize operations with profits from other funds.
Hanging in for a turnaround
Jacob, of the Jacob Internet Fund, and York, of the WWW Internet Fund, manage just the kind of funds that analysts predict are about to go under next--small funds under $50 million that don't belong to a big fund firm such as Fidelity or Vanguard. But both managers are sticking to their guns, confident that they will be among the survivors.
The Jacob Internet Fund was down more than 79 percent in 2000, and Jacob "obviously got a lot of press for the mistakes he made last year," Traulsen said.
One would expect Jacob to change his tune on Internet stocks, but the fund manager is doing no such thing.
"We've made adjustments in terms of certain areas under the Internet umbrella," said Jacob, who added that his fund is still the most pure Internet fund out there. "It's where we feel most comfortable, even given the difficult environment."
Although his mutual fund is down more than 30 percent year-to-date, Jacob said the loyalty of his clients will ensure survival. "These investors have been with me for a while. If I asked you who ran Putnam, you wouldn't know."
Jacob said people have been putting money into the fund in the past few months, though he admitted that it was due to IRA season. He denied that the company is in trouble because its assets hover around the $30 million mark. It's plausible that a "boutique" type fund like his, which only has six employees, can be profitable below the $50 million mark, he said.
There's no way his fund is going to liquidate, Jacob said. "For that to happen we'd have to go down considerably, even from this asset level."
York, who managed The WWW Internet Fund, which is down to around $30 million in assets, also said his fund's profitability mark was well below $10 million; he estimated it to be at $5 million.
"This is just one swing in the pendulum," York said. "This is just the second inning in a nine-inning game," and broadband is going to step up to bat soon, he added. The WWW Internet Fund is down about 24 percent year-to-date and fell more than 58 percent in 2000.
"WWW was the first Internet fund back in 1996, and it got ridiculed for following its own path--not buying Amazon.com," York said, referring to his strategy to spread his investments among young dot-coms and giants such as Cisco Systems (Nasdaq: CSCO). York plans on sticking around for a while. He's just created a global Internet fund and has a couple more on the drawing board.
Just a fad
Despite the unflinching confidence York and Jacob had in their own funds, they were skeptical about Internet funds in general. They also admitted that greed and over-the-top marketing created a glut of Internet funds that were sliced and diced into every dot-com niche available.
"Tell me what the differences between business-to-business and e-commerce are," quipped York. A lot of these funds are going to consolidate because many were "really just marketing ploys in the first place," he said.
But York, by opening more Internet funds, is joining the ranks of fund families, some of which have a bunch of overlapping funds. The Kinetics fund has a family of five overlapping funds: the Kinetics Internet Fund, Kinetics Internet Emerging Growth, Kinetics Internet Global Growth, Kinetics Internet Infrastructure and Kinetics Internet New Paradigm. The Amerindo fund has three Internet B2B funds, and Firsthand has the Firsthand Communications, Firsthand e-Commerce, Firsthand Global Technology, Firsthand Technology Innovators, Firsthand Technology Leaders, and Firsthand Technology Value funds.
If history is any indicator, the number of Internet funds is due to shrink dramatically. During the biotech boom, mutual funds quickly appeared only to become redundant with a lot of healthcare funds and disappear. "Socially conscious" funds also ballooned in the ྌs, only to see 14 funds liquidate.
"Sometimes marketing departments just get carried away," said Lipper Analytical's Cassidy.>