Eric Dutram: The technology sector since the beginning of the year has been on the rise and has outperformed the S&P 500 index (Three ETFs to Play the Tech IPO Boom). But in the past few weeks and months, the trend for the sector seemed to have changed. The sector has somewhat lost its way with investors now shifting focus from technology to other well-performing sectors like financials.
What has led to the change in momentum of the sector? It seems that the fall in Apple’s stock price and disappointing Google results led to the tech based ETFs to perform badly in recent weeks.
After all, Apple plays a dominant role in many of the tech ETFs and accounts for a double digit allocation in at least a few (Three ETFs with the Most Apple Exposure). In the past one month, the stock price of the giant company has fallen double digits, even despite the strong EPS level and new product launches.
So tech ETFs whose performance is largely tied to the performance of Apple disappointed investors. To add to this, Apple again reported disappointing results for the fourth quarter.
Another blow to the tech sector last week was the disappointing Google results (Three Tech ETFs Rocked by Google’s Earnings Miss). The stock was the worst performing company in the S&P 500 on the day of earnings announcement.
This impacted all the ETFs having a significant exposure to the company. Other tech company results like IBM and Microsoft have been disappointing this quarter adding to the underperformance of the tech ETFs in the past few weeks.
However, if we keep these short-term trends aside, the technology sector is clearly a long-term growth prospect for investors willing to remain invested. The sector should return to their market dominance over time.
Cloud computing and mobility are some of the areas which should provide a boost to its long-term growth prospects. Many have viewed the sector with skepticism since the tech bubble burst more than a decade ago, but times have clearly changed for the better.
Given this, a look at some of the top ranked ETFs in the space could be the way to target the best of the segment with lower levels of risk.
About the Zacks ETF Rank
A look at top ranked Technology ETFs can be done by using the Zacks ETF Rank. This technique provides a recommendation for the ETF in the context of our outlook of the underlying industry, sector, style box, or asset class. Our proprietary methodology also takes into account the risk preferences of investors as well.
The aim of our models is to select the best ETFs within each risk category. We assign each ETF one of five ranks within each risk bucket. Thus, Zacks Rank reflects the expected return of an ETF relative to other ETFs with a similar level of risk.
Using this strategy, we have found three ETFs which is Ranked 1 or ‘Strong Buy’ in the technology industry, which we have highlighted in greater detail below:
Vanguard Information Technology ETF (NYSEARCA:VGT)
The fund manages a $2.7 billion asset base and provides exposure to a large basket of 415 technology stocks. Although VGT seeks to provide exposure to the entire technology sector, software, hardware and Internet, still the fund appears to be more tilted towards large caps. Small allocation has also been made to mid caps and small caps (see Mid Cap ETF Investing 101).
Despite a broad exposure to technology stocks, VGT appears to be concentrated in its individual holdings as the top 10 make up 60% of the total asset allocated. This suggests that company specific risk is pretty high in the fund and the top 10 holdings dominate the returns of the fund.
The highest fund allocation goes to Apple with 20.5% of asset invested, which implies that the performance of the fund is somewhat dependent on Apple’s performance. The company’s stock price was on a downward trend in the past 1 month which hampered the performance of those ETFs which have assigned the highest weight to Apple.
This is followed by International Business Machines Corp. and Microsoft with asset investment of 7.5% and 7.4%, respectively. This tech ETF charges an expense ratio of 19 basis points on an annual basis.
First Trust NASDAQ-100-Technology Sector Index Fund (NASDAQ:QTEC)
First Trust NASDAQ-100-Technology Sector Index Fund has been designed to replicate the performance of the NASDAQ-100-Technology Sector Index. This tech ETF provides exposure to a small basket of 44 technology stocks and manages an asset base of $112.1 million.
The fund has largely allocated its asset base among two parts of the market spectrum, large caps and mid caps, with large cap accounting for 57% of the asset base. In style, both growth and value stocks are equally preferred in the fund.
Among the top 10 holdings, the fund allocates just 25% of its asset base, which implies that the fund’s performance is not dependent on the performance of the first 10 priorities. In this fund, neither Apple nor Google gets an allocation, which reveals that the fund’s performance was not affected by the recent downturn in these two stocks (Three Great Tech ETFs That Avoid Apple).
The fund appears to be a bit expensive charging a fee of 60 basis points from investors.
S&P North American Technology Sector Index Fund (NYSEARCA:IGM)
S&P North American Technology Sector Index ETF seeks to replicate the price and yield performance of the S&P North American Technology Sector Index. The fund was initiated in March 2001 and since then has managed to build assets under management of $498.5 million.
The product holds a total of 259 securities in which three tech giants, Apple, Microsoft and International Business Corp, hold the top three positions. The top three companies get a total allocation of 32.9% while among others the fund does not appear to invest more than 7.14% in any one stock.
The fund appears to be concentrated in the top 10 holdings with more than 54% of the asset base invested in these securities (also read Zacks #1 Ranked Tech Sector ETF in Focus).
From a market capitalization perspective, the fund appears to be inclined to large market caps and allocates 80% of the asset base to this level while mid caps and small caps get an allocation of 13% and 6%, respectively. IGM charges an expense ratio of 48 basis points from the investor.
In 1978, Len Zacks discovered the power of earnings estimates revisions to enable profitable investment decisions. Today, that discovery is still the heart of the Zacks Rank, a peerless stock rating system whose Strong Buy recommendation has an average return of 26% per year.