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Sunday May 27 8:18 AM ET

High PEs for Tech Stocks Still a Concern By Chelsea Emery

NEW YORK (Reuters) - Many technology stocks are looking overpriced again as the market recovers from last year's rout, said top money managers who advised caution as investors shop for stocks to replenish their portfolios.

They said price-to-earnings ratios for technology stocks have been soaring with the recent surge in the Nasdaq composite index.

``I'm very concerned about the big Nasdaq stocks right now,'' said Louis Navellier, who helps manage $6 billion for Navellier & Associates in Reno, Nevada. ``You have PEs going up but it's a false sense of security because you have rising stock prices and sloppy earnings.''

Investors use PE ratios to determine whether stocks are expensive relative to their earnings. Recently, PEs have climbed as rising share prices have boosted the ``P'' in PE. But at the same time, earnings expectations have fallen. That's lowered the ratio's divisor, or ``E''.

The Nasdaq's ``forward PE,'' or PE for predicted earnings over the next 12 months now hovers at 56.6, according to market research firm Thomson Financial. That's the highest PE on a monthly basis since November and it's up 25 percent from the index's 2-1/2-year price low in early April. It's also higher than the nine-year PE average of 30.2, according to Thomson Financial.

Some see this gain as a positive sign that Wall Street is anticipating a stronger economy and better earnings a year from now.

DIGGING DEEPER

Dig deeper, though, and many see reason for concern. Sure, the Nasdaq has climbed 40 percent from its April low on optimism the U.S. Federal Reserve's 2-1/2 percentage point interest-rate cut this year will boost the slowing economy.

But earnings expectations for companies in the index keep falling. Analysts now expect average earnings of $38.25 a share in aggregate for all the Nasdaq composite companies, according to Thomson Financial. That's down from $48.50 expected in January.

As a result, many managers said they will wait to see earnings start to trend upward before they begin pumping substantially more money into stocks.

``I certainly don't think the market can go up at the rate it has over (the past) month and a half,'' said Edward Hemmelgarn, who helps oversee $1.7 billion for Shaker Investments. ``While I think the stock market will be higher than it is now on December 31, we'll have months we'll be down.''

Hemmelgarn said he was paring shares of companies that don't make money, like optical switch maker Tellium Inc.(NasdaqNM:TELM - news) to buy companies with low PEs, such as Microchip Technology Inc.(NasdaqNM:MCHP - news) Microchip, a specialty semiconductor maker sells for 34.1 forward earnings, according to Thomson Financial data, less than the market average.

BROADER MARKET HIGHS JUSTIFIED

The more diversified market hasn't been left out of the rally and the PE of the benchmark Standard & Poor's 500 index(^SPX - news) has climbed to 22.7. That's higher than the historical average of 18 and nearing the record of 25 clocked during the S&P's price high in March of last year.

But the high ratio is justified because energy and other non-technology companies in the index have strong earnings to back up their higher share prices, analysts and investors said.

``Strong earnings are paramount,'' said Navellier. ``We are currently well diversified in energy, retail, healthcare and other 'niche' sectors such as homebuilding. Our technology exposure is primarily limited to moderate PE stocks with superior earnings.''

To be sure, there are some signs of improving earnings on the horizon, due, in part, to the Fed's rate cuts this year. As earnings improve, PE ratios are likely to come down, making stocks appear less expensive and more attractive, investors said.

The trend may already be visible. In the week ended May 16, average earnings for companies in the Nasdaq rose from the week before to $38.25 from $36.75. At the same time, PEs slipped to 56.6 from 58.7.

Still, market watchers said they needed more than a single week of earnings improvements before investors would make big bets. ``I don't think money managers are going to commit (cash to stocks) wholeheartedly because all they're doing is guessing at earnings right now,'' said Paul Cherney, an analyst with S&P Marketscope. ``We could be in for a long, hot summer.''

-- K (infosurf@yahoo.com), May 27, 2001