Once staid mutual funds are exploring new — and potentially riskier —  territory in search of higher returns. An increasing number of major mutual funds are pulling the trigger on investments in higher risk-higher return tech firms, according to a March 23rd article in the New York Times.

Some of the biggest money managers in the industry such as Fidelity  and T. Rowe Price have recently made multi-billion dollar deals to acquire shares of privately held tech companies such as Air BnB and Pinterest. These shares are pooled into mutual funds that end up in the retirement accounts of millions of Americans. With earnings in many other sectors of the stock market slowing down, mutual fund money managers are looking to boost their returns with high-flying tech stocks.

Mutual funds
Chart via Fairfax Financial

 

Mutual funds: Landslide of investments in private tech firms

Of note, industry giant Fidelity’s Contrafund has $204 million worth of Pinterest shares, $162 million in Uber shares and another $24 million in Airbnb shares. There were 29 deals last year in which a mutual fund bought into a privately held firm totaling to $4.7 billion, based on data from CB Insights. In 2012 there were only six deals worth a combined $296 million.

T. Rowe Price made 17 separate investments in private tech companies in 2014.

Private companies are not required to issue financial reports and are not traded on stock exchanges, and have not historically been found in retirement accounts. These major investors, however, have decided to make significant wagers that these companies will be bought or go public at prices above their latest funding rounds, but there are no guarantees.

Statement from finance professor

“I think it goes beyond what mutual funds were set up to do,” commented Leonard Rosenthal, a professor of finance at Bentley University. “It’s great for the portfolio manager, but it’s not necessarily in the interest of the shareholders of the fund. If investors are looking for a portfolio of risky securities, there are plenty of stocks to trade in the public market.”

The search for the mythical unicorn

In a sign of the times, these rapidly growing tech firms are so reluctant to sell private stock to the public that they have been dubbed as “unicorns,” reflecting their supposed rarity and great value. A number of these tech firms such as the ride-hailing company Uber, the room rental site Airbnb and the digital scrapbook Pinterest are valued above $10 billion.

As ValueWalk reported recently, Steve Mandel of LonePine noted:

With interest rates at multi-decade lows, equities markets having enjoyed a powerful rally from the 2009 bottom through year-end 2014, and private technology companies receiving eye-popping valuations, does this not signal an extended equities market with limited opportunity?

Prem Watsa warned of the same trend in his 2014 letter to investors.

Many of the companies described by the New York Times would likely fit the “eye-popping valuations” description.