Home > What’s In An ETF? The Name Is Only A Clue (IEO)
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What’s In An ETF? The Name Is Only A Clue (IEO)

September 22nd, 2011

Noel Archard: A reader recently wrote to us asking about the Dow Jones U.S. Oil & Gas Exploration & Production Index Fund (NYSE:IEO). In his view, he felt the fund was lopsided toward oil vs. gas. “If you call an ETF ‘oil AND gas’, shouldn’t it be exposed to significant amounts of each?” he asked us.

It’s a great question and one that we’ve received before in varying forms. After all, shouldn’t the name of an ETF be a good indicator of what that ETF actually holds?

The answer is yes — but with a caveat. ETFs are typically named after the index they track, but it requires additional research to know the actual holdings and their percentages. And, it’s important to remember that the weighting of the holdings in an ETF will frequently be affected by market capitalization.

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Using IEO as an example, the fund’s fact sheet on iShares.com explains that it tracks the Dow Jones US Select Oil Exploration & Production Index (DJSOEP). This index measures companies engaged in the exploration for and drilling, production, refining and supply of oil and gas products.

As of Sept. 19, IEO’s top three holdings were Occidental Petroleum Corp, Anadarko Petroleum Corp and Apache Corp. These three large, diversified oil and gas exploration and production companies accounted for 33.49% of IEO’s daily holdings.

How did Oxy, Apache and Anadarko emerge as the biggest holdings? As a stock price changes, the weightings of the index components automatically adjust, meaning stocks with larger market caps emerge as top holdings in an ETF.

The ETF does hold companies that focus primarily on natural gas – as opposed to oil – but they tend to have much smaller market caps. This means they are less represented in the benchmark index and, in turn, IEO. For instance, Southern Union or Cheniere Energy focus primarily on natural gas. But given their small size, they account for only 1.28% of IEO’s holdings.

For investors trying to determine what an ETF might hold and why, it is important to understand that different index providers use different methodologies to build and maintain an index. Index providers can differ in how they define an industry sector and how many components they decide to include in an index. And then there is frequency of reconstitution — Dow Jones sector indexes reconstitute quarterly, while S&P sector index reconstitution occurs ad hoc by committee.

In the case of DJSOEP, reviews are conducted quarterly. To enter the index, a company must have a float-adjusted market cap of $500 million or more on the last business day of the month prior to the review. The index is weighted by float-adjusted market cap and there are other rules it must follow: The weight of any individual security is restricted to 25%; the aggregate weight of individual securities with weights of 5% or more is restricted to 45%; and the aggregate weight of the five largest companies in the index is restricted to 65%.

These index inclusion rules all translate back to IEO, and help to explain what it does and does not hold.

To learn what’s inside an ETF, investors can see all of our funds on iShares.com under the ETFs drop-down menu. Clicking on the name of an ETF takes investors to an overview page that provides a list of the fund’s top 10 holdings, its sector breakdown, its total return and recent trading information. To go deeper, an investor can click on the “holdings” tab to get a detailed list of the fund’s holdings. If you prefer to search by asset class, sector exposure, total returns, management fees or index provider, use the ETF screening tool.

While a name may give an initial hint as to what type of exposure an ETF offers, there’s more to the story. Taking time to look under the hood is crucial to ensuring the ETF you are considering is the right one to add to your portfolio.

Narrowly focused investments typically exhibit higher volatility.  Holdings are subject to change.

Written By Noel Archard From The iShares Blog

Noel Archard, CFA is a Managing Director and Head of Product for North America iShares. He currently heads the iShares product function in the US, which is responsible for product research and development, product management, the management of iShares in capital markets and product services and analytics. Noel joined iShares in 2006, then part of Barclays Global Investors (BGI), which merged with BlackRock in December 2009. He spent over 10 years at The Vanguard Group, first working with their brokerage service unit and then moving into their Exchange Traded Funds group.

Noel has a BS degree from Northwestern University and is a Chartered Financial Analyst charterholder (CFA). He is a member of the Financial Analysts of Philadelphia and the CFA Institute, and holds Series 7, 24, 63 and 65 securities licenses.


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