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The Independent Adviser for Vanguard Investors
•
November 2016
•
15
FOR CUSTOMER SERVICE, PLEASE CALL
800-211-7641
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. Also,
this year in particular, the presidential
campaign has made many companies
nervous, and spending may have been
dialed back a bit until after November
8, though in all honesty, over the past
several election cycles there is no dis-
cernible pattern for
Tech Winter
under-
performance or outperformance.
Finally, corporate spending also has
tax implications 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 ben-
efit from this seasonal year-end spend-
ing begin rising on expectations of
increased earnings in the coming year.
Whether, in fact, this flush will occur is
always a question mark. And by the time
the question has been answered, stock
prices usually already reflect that—so
you want a manager who knows how
to get ahead of that move on your team.
A second and wholly separate factor
is Europe. European purchasers have in
the past accounted for a significant per-
centage of U.S. technology orders. It’s
typically the fourth quarter when they do
a lot of buying. In most years, this occurs
because of the longer summer vacations
European companies give their work-
ers, during which time orders slack off.
When workers return, orders begin rising
in the fall and through the winter, often
hitting a peak in the last few months of
the year. Now, given that the EU appears
to be on the mend, the European factor
could play a bigger part in a tech spurt.
However, let’s add in one more cata-
lyst that has typically helped tech stocks
late in the year: Discounting. Hardware
companies, beginning to retool for new
product launches, start offering dis-
counts on existing inventory to speed
sales. These discounts allow corporate
purchasers looking for proven technolo-
gy to buy the cheap, well-tested products
still sitting on manufacturers’ shelves.
The net effect is that technology com-
panies begin to see increased demand,
and tech stocks rally in advance of earn-
ings news.
Tech Winter
draws to a close
after the start of the new year, when
technology companies restock their
inventories and a new purchasing cycle
commences. As this happens, tech stocks
don’t necessarily underperform the stock
market as a whole, but they do become
less predictable in their movements, not
following the pattern commonly seen
between November and February.
As you know, Vanguard’s only tech
funds are Information Technology
Index and its ETF sibling. But over at
Fidelity, where active managers run a
host of tech-oriented funds, the evi-
dence that a smart tech investor can do
well during the four months of
Tech
Winter
is pretty compelling. Take a look
at the chart above showing the aver-
age four-month returns for a number
of tech-related Fidelity funds. (Jim
Fidelity Tech Fund Dominance
(Average November to February Returns for 30 Years)
Electronics Technology Software Computers
500
& ITSvcs.
Index
0%
2%
4%
6%
8%
10%
12%
14%
EXPECTATIONS
Law of Small Numbers
I’M GOING TO CALL THIS the “law of small numbers” because, indeed, when yields get tiny,
some funny things begin to happen. Take
Ultra-Short-Term Bond
, one of the newest of
Vanguard’s bond funds, which I think of as a money market alternative, even though Vanguard
says it isn’t.
The fund’s maturity is ultra-short, as the name implies, and comes in two flavors, the
Investor shares, with a $3,000 minimum and a 0.20% expense ratio, and the Admiral shares,
for which you need $50,000 to gain access to a cheaper 0.12% expense ratio.
Now, when you’re talking about ultra-short bond funds, I’m sure you realize that every penny,
and even every fraction of a penny, counts. Saving 8 basis points on your expense ratio should
mean you earn more money, right? Indeed, over the year ending in September, Admiral inves-
tors did a bit better than that, with a total return of 1.16% versus 1.01%, which means they
actually earned 15 basis points more.
But the route to this advantage is a rocky one. On a monthly basis, the Admiral shares out-
perform the Investor shares only 58% of the time. Yup, there was even one month early in the
fund’s life when the Investor shares showed a positive return while the Admiral shares posted
a loss. How could that be? Pennies.
Because the Investor shares began life at a $10 net asset value while the Admiral shares
started at $20, the Admiral shares have more increments in which to move up and down on a
daily basis. Through the end of October, there have been 166 days when the Investor shares
showed no change in price, but there’ve only been 145 days when the Admiral shares didn’t
move. And, depending on whether they moved or didn’t at month-end, when performance is tal-
lied and interest is reinvested, well, it’s the law of small numbers.
I think Ultra-Short-Term Bond is a great money fund alternative, with a fully taxable SEC
yield of 1.02%, which is 41 basis points higher than, say,
Prime Money Market
’s. But under-
stand that if you take a short-term view, you may not always like what you see when you buy
the Admiral shares. And frankly, you may still be better off using a tax-exempt money fund. At
month’s end, the taxable-equivalent yield on
Tax-Exempt Money Market
came to 0.99%.
Not bad for a fund with absolutely no movement in its price.
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