6 must-ask questions about tech funds!

nvest in technology stocks if you want to make a lot of money. It is the hottest sector.

You probably have heard that statement often.

Everyone loves tech stocks. Even fund managers. Of the 115 diversified equity funds (funds that invest in shares of companies of various sectors), 35 had technology as the top sector.

What does this mean for you?

Should you invest in a tech fund if the stocks are too expensive?

Since tech funds only invest in the shares of infotech companies, they become risky if the infotech sector slumps (like it did in 2000). But if the sector booms, these funds ride the wave and the returns are tremendous.

They offer high returns, but they are also high risk.

Invest in a tech fund only if

• You have already invested in a diversified equity fund.
• You are convinced technology is the investment of the future.

Make sure, though, you don't put all your money into these funds. Invest a maximum of 10% from your total investment budget in a tech fund.

Here are six questions you should ask before you invest in a tech fund. We also offer you a guide as to which funds will make a good investment and which will not.

Note:
Portfolio (total money available for investment with the fund) as on February 28, 2005.  
Net Asset Value (price of a unit of a fund) as on March 18, 2005.

1. Is the fund well diversified?

If the answer is yes, it means the fund's investments are distributed among a large number of tech companies. No single company dominates the fund's portfolio. This is a safe strategy.

NAV: 6.91
Top 5 companies: 54.09% of portfolio
Top 10 companies: 72.97% of portfolio
Companies invested in: 25

This fund has consistently maintained a portfolio of 25 to 30 stocks. Except for Infosys, no other stock has ever accounted for more than 10% of the fund's total investment.

Launched in April 2000, it posted a loss of 36% in 2001 but has not looked back since.

The years 2002 and 2003 were golden. In 2004, the fund was the second best performer among tech funds with a return of 26.99% (the average return among tech funds was 23.77%).

If you want to venture into the rough seas of the tech fund sector, this is the safest boat for the journey. The fund's performance has been consistent. Also, since the fund invests in many companies, you will not feel the pinch if one of them performs badly.

2. Does the fund invest only in a few companies?

Some funds only invest in a selected number of companies. This is risky. However, they mitigate the risk by not investing heavily in one single company.

NAV: 9.55
Top 5 companies: 65.58% of portfolio
Top 10 companies: 99.28% of portfolio
Companies invested in: 12

Its top holding -- Mphasis BFL -- counts for only 14.57% of its portfolio.

The fund had an ill fated start in January 2000. Its Net Asset Value more than halved between February and December that year. The years 2001 and 2002 were no different.

In 2003, the fund's fortunes changed. It became the second best tech fund with a return of 67.29%.

In 2004, the average return of tech funds was 23.77% while this fund had a 24.72% return.

Overall, it is one of the better tech funds today.

3. Does the fund invest in heavily in just one company?

If the portfolio is tilted heavily towards one stock, it is a risky portfolio.

The returns can be really high if that company does well. If it does not, the fund can come tumbling down.

In both cases mentioned below, Infosys, a high quality stock, is the top holder so there is not much to really worry about.

NAV: 28.01
Top 5 companies: 72.65% of portfolio
Top 10 companies: 91.77% of portfolio
Companies invested in: 14

The fund manager seems to have developed a special liking for Infosys. On many occasions, around one-third of its total investments have been in this stock.

Historically, the fund has been an average performer. After a series of disappointing years, Franklin Infotech signed off 2004 as the hottest tech fund of the year with a return of over 30%.

In the short term, the fund may give you sleepless nights. In the long run, it could be a handy tech fund to have.

Kotak Tech

NAV: 5.859
Top 5 companies: 82.42% of portfolio
Top 10 companies: 96.17% of portfolio
Companies invested in: 11

Launched in early 2000, the fund mopped up Rs 230 crore (Rs 23 billion). Within a year, the size of the fund was only Rs 70 crore (Rs 700 million). The fund was never able to take its NAV above Rs 10.

In 2002, the fund manager changed. The focus shifted to fewer, better tech stocks after which it began posting good returns.

The fund manager believes strongly in Infosys; 49.31% of the fund's total portfolio is invested in this stock.

4. Is the fund very volatile?

Does the NAV rise (or drop) faster than the rest of the tech funds when the stock market picks (or falls)?

With such a fund, when the stocks picked work out, the fund does very well. But when the going gets tough, it loses quickly.

NAV: 6.91
Top 5 companies: 42.50% of portfolio
Top 10 companies: 70.34% of portfolio
Companies invested in: 22

Between May 27, 2003, and January 5, 2004, the fund surged 130% and then lost 14% in the first half of 2004.

It picked up later in the year and once again slumped to become the worst performing tech fund of that year. This year, the fund is once again galloping ahead.

The good thing about this fund is its diversified portfolio. It can offer superlative gains, but the risk factor is high.

5. Are the returns consistent?

Are returns high in one quarter and low the next?

Of course, if the entire sector has slumped, you cannot expect stellar performance from a fund.

Returns should be viewed in comparison with other funds and the sector as a whole.

Magnum IT

NAV: 10.99
Top 5 companies: 64.28% of portfolio
Top 10 companies: 83.03% of portfolio
Companies invested in: 22

This fund has been an average performer. It was launched in July 1999 and had a dream run till December 1999, followed a bad run till 2002. It has since performed well in patches. 

Overall, the fund is still far from becoming the pick of technology funds.

But the patches of good performance show it has the potential to become one. Consistency is the need of the hour for this fund.

6. Does the fund stick to some stocks?

The fund manager's policy of selecting certain companies and sticking to them for long periods is a good sign. Over time, these companies will show stellar returns.

UTI Software

NAV: 12.94
Top 5 companies: 57.60% of portfolio
Top 10 companies: 81.68% of portfolio
Companies invested in: 20

Overall, this fund's performance has been discouraging. It could not live up to its great start in 1999.

But there are a few good things about it. It is a relatively well-diversified portfolio. And stocks like Infosys, Wipro and Satyam have found a permanent place in the portfolio. This does offer some long-term advantages.

Image: Dominic Xavier