Bets on A.I. and innovation help this tech-focused T. Rowe Price fund outperform the market

Published Sun, Jun 25 20238:28 AM EDTUpdated Mon, Jun 26 20237:07 AM EDT

While attending Colby College in the late 1990s, Ken Allen spent half his time shooting hoops and the other half devoted to day trading. Torn when the time came to search for a job, the economics major first consulted a mentor who connected him with a former student. That connection led the Maine native to T. Rowe Price in Baltimore. Since joining the investment management firm in 2000, Allen's worked his way up the corporate ladder, taking the helm as portfolio manager of the T. Rowe Price Science & Technology (PRSCX) fund in 2009. The growth fund launched in 1987 aims to capitalize on innovation. In the wake of the latest artificial intelligence boom that's driven up last year's beaten-up technology stocks, it's skyrocketed nearly 38% in 2023. Longer-term, the fund, with a 0.84% expense ratio, offers 10- and 15-year trailing returns of more than 16% and about 13%, respectively. PRSCX YTD mountain PRSCX shares in 2023 Key to Allen's strategy since he began running the more than $7-billion fund is finding stocks he views as undervalued, hinging his investment framework around an analysis of cash flows. Allen also views solid, independent research as critical pieces of his methodology. This year, Allen has benefited from a spectacular run-up in technology stocks, fueled by a mania for all things tied to artificial intelligence. That said, "I try to stay really disciplined around valuation," Allen maintains. "I think especially in tech investing, valuation tends to get ignored or largely ignored." Betting on FAANG stocks PRSCX owns all the major FAANG names (Meta, Apple, Amazon and Alphabet), except for Netflix, and dominant chipmakers benefiting from AI such as Nvidia and Advanced Micro Devices , up 189% and 70%, respectively, this year. Other key holdings include Microsoft , Salesforce and German online retailer Zalando. Just two stocks combined — Microsoft and Alphabet — made up nearly a fifth of the fund's portfolio as of as of March 31. Both stocks have gained more than 38% this year as investors bet on the promise of AI and the pair battle to offer the best generative AI model. But the fund's favored Microsoft since 2008 and bought Alphabet last summer, long before their latest gains. Allen expects recent technology trends to continue boosting what he regards as high-quality names, and applies the same philosophy to a position in Amazon — now the fund's fourth-largest holding. Allen stood by Microsoft even as a PC-fueled down cycle and uncertainty rocked the technology sector in 2022, driving down shares in the Xbox maker by about 29%. Allen opened his position in Alphabet last year, just as the slowing advertising cycle turned many investors away from the Google parent, dropping its multiple to the low teens. Allen viewed its solid fundamentals as unchanged. "It's kind of unusual to get a great business at a lower PE than it's likely ...growth rate, and that's why I felt really comfortable having a particularly large position then in the stock," he explained. The same idea cemented Allen's faith in Salesforce last year, even as shares cratered 48%, its business slowed and the co-CEO announced his departure. The stock proved one of Allen's biggest losers in 2022, but the portfolio manager expects significant upside as IT spending improves. Salesforce has rebounded more than 58% this year. "I looked at this company that I think is a top line grower, well into the double digits, with a ton of margin expansion, trading at 15 times free cash flow, and it just didn't make sense to me that a business this good would be this discounted," Allen said. Given his devotion to valuation, Allen has lately pulled back his exposure to some technology names that have rallied, significantly reducing stakes in Nvidia, Meta Platforms, Advanced Micro Devices and Amazon. Unusual plays and new additions Not every name in Allen's portfolio is widely bought on Wall Street. Despite a recent selloff in Zalando , Allen said shares look "really cheap" and the company appears well-situated to take market share with its vast item selection. The stock, one of Allen's top 10 as of March 31, is undervalued by at least half on the basis of its long-term cash flow projections, and could potentially triple within the next few years, he calculates, he said. Accenture , which this week forecast weaker-than-estimated revenue in the current quarter , remains a "premier" technology services company able to guide businesses as they look to implement AI. It was Allen's 7th largest position at the end of March. Recent additions to the fund include Mastercard , Apple and Texas Instruments . While Mastercard lags the stock performance of many technology behemoths, Allen believes it offers similar growth potential, and less cyclicality and fewer risks. A low-risk approach also extends to Texas Instruments. While the analog semiconductor name is ahead less than 2% this year, Allen said it offers a strong track record of driving shareholder value and returning capital through buybacks and dividends. TXN yields 3%. Lately, the T. Rowe Price fund has outperformed even when it's slumped. The fund tumbled more than 35% during last year's rout, but other tech funds lost an average of 37.4%, according to Morningstar. For Allen, every investment and every cycle marks another learning opportunity to perfect his craft. "It's really important to learn over time when things go well and especially when things don't go well," Allen said. "One of the things that I focus on a lot, and have for the 23 years I've been doing this, is thoughtfully evaluating what I can do to just get incrementally better while sticking to a process that I believe in."