Equity: U.S. Technology
With well over $20B in AUM across ten ETFs, US Technology is a hugely popular sector, likely mirroring individual investor’s longstanding quest to find the next big thing in tech.
“VGT and FTEC distinguish themselves by holding the two deepest holdings baskets and charging the two lowest fees” However, the funds in this space differ tremendously in coverage, all-in costs and performance.
Of the ten funds competing for investor dollars, four are broad, market-cap weighted ETFs, while the other six attempt to beat or at least recast the market in some way. The plain-vanilla ETFs–IYW, VGT, XLK, and FTEC–differ subtly from one another. IYW, our Analyst Pick for the segment, provides excellent tracking that reduces the sting of its higher fee. Meanwhile, XLK stands out for its phenomenal liquidity while VGT and FTEC distinguish themselves by holding the two deepest holdings baskets and charging the two lowest fees in the segment.
The six ETFs offering alternative exposure to US technology companies each take different approaches to selecting and rearranging their portfolio with the goal of outperforming their plain-vanilla counterparts. Most of these funds reduce the weight of the industry’s largest companies like Apple and Microsoft. Sometimes these rearranged portfolios have outperformed their plain-vanilla competitors but over many periods they have failed to do so. Still, the funds share a common theme–capturing opportunities from smaller tech firms with growth potential.
RYT, MTK and QTEC equally weight their baskets, but differ in their selection process. MTK holds US-listed companies, while QTEC only holds Nasdaq-listed firms. In contrast, RYT pulls its portfolio of tech companies from the S&P 500; This unique approach earns it a spot on our “Opportunities” list.
Meanwhile, PTF and FXL use quantitative models to select and weight their portfolios. These funds rely on technical analysis and concepts such as momentum to generate performance—sometimes these approaches have worked and other times they haven’t.
Lastly, PSCT focuses explicitly on small- and micro-cap companies. The alternative funds tend to come with higher all-in costs due to higher fees, poorer tracking and/or weaker liquidity. While these funds suffer in comparison to their extremely efficient and liquid broad market peers, for the most part they can still be held and traded with manageable costs and risks. (Insight updated 11/22/17)
All Funds (16)
FTEC $1.3 B 1299056200 Lowest fee in segment
VGT $16.58 B 16579992701.96 Most comprehensive.
IYW $4.1 B 4101960240 Broad, but expensive.
XLK $19.3 B 19295954346.074 Highest Liquidity
XNTK $849.74 M 849742414.57028 Only holds electronics
RYT $1.54 B 1541121000 Equal-weighted large caps.
QTEC $2.24 B 2236068548.084 Equal-weighted large caps.
FXL $1.64 B 1639604315 Quant model.
PSCT $489.49 M 489493750 Small caps only.
TCHF $6.13 M 6132255 N/A
JHMT $62.09 M 62086200 broad-based tech
PTF $126.11 M 126106700 Technical analysis
XITK $8.07 M 8067112.1 N/A
FNG $40.95 M 40953528 N/A
XK $857.93 K 857934.316 N/A
MTK $767.01 M 767010147.91631 Only holds electronics
ETF.com Grade as 11/16/17
Equity: U.S. Technology
ETF.com Efficiency Insight
Tracking differences vary significantly within the US Technology segment, but the story is best told through expenses. A fund’s expense ratio is the single best predictor of how far
“tracking difference represents actual results” an ETF will trail its own underlying index over any 1-year holding period. That definitely rings true here as the funds that charge the lowest fees track their indices the tightest.
At one end, VGT, FTEC, and XLK charge the lowest fees while at the other end FXL charges a steep price. Even worse, at the high-end of the expense spectrum many of the funds trail their indices by significantly more than their expense ratio otherwise suggests. To be clear, a fund’s stated expense ratio is the amount by which you can expect its performance to lag the performance of its index whereas tracking difference represents actual results.
PowerShares’ PTF changed its index in Feb 2014 to a momentum driven Dorsey Wright index. It did indeed cause some tracking problems, but the difference between the fund and the index has settled some in recent months. That being said, it still isn't cheap.
Note: We compare MTK to a price return index. Any appearance of positive tracking error–outperformance–is fictitious. (Insight updated 11/22/17)
ETF.com Tradability Insight
There is an abundance of readily liquid and tradable funds in the US Technology segment. As is often the case, however, there’s a range from the precariously illiquid to the
“an abundance of readily liquid and tradable funds in the US Technology segment” ultra-liquid.
XLK, IYW, and VGT are the clear liquidity leaders. Their exceptional liquidity benefits small and large investors alike. XLK dominates the segment with a median daily volume of about ten times more than the next most actively traded fund: VGT. Still, IYW and VGT trade impressive volumes north of $20M most days.
The next tier of liquidity includes funds that trade more than $1M most days. The funds here include FTEC, QTEC, RYT, PTF, and FXL, all of which trade at small average spreads as well. In short, these funds too are readily tradable.
The last tier of funds includes those with less than $1M of volume most days and, in general, require a higher level of attention to execution. The funds included here are PSCT and MTK. PSCT trades at relatively wide bid/ask spreads in comparison to other funds in the segment.
Investors should consider using limit orders set around iNAV when trading any of the funds here but this recommendation is particularly salient for funds in the lower liquidity tiers. Limit orders will help investors contain trading costs by reducing the execution uncertainty inherent in market orders.
A product of their US-listed and liquid underlying holdings, investors trading large blocks should fare well in practically any of the US tech ETFs. That’s because all of the funds charge reasonable creation fees and hold liquid US-listed securities where market impact is unlikely and hedge-ability is high. Contact a liquidity provider or the capital markets desk of the ETF you’re trading to find efficient execution for large block trades. (Insight updated 11/22/17)
ETF.com Fit Insight
Investors looking for US Technology ETFs must first decide whether they want broad, marketlike exposure or if they want a fund that tilts away from the market. Some of the funds that tilt
“Four funds offer marketlike exposure” away from the market do so to target a specific subset of technology companies while others do so in a bid to generate outperformance.
Four funds offer marketlike exposure: IYW, VGT, XLK and FTEC. Even within these broad and representative funds, material differences exist. FTEC and VGT are notable for having the deepest holdings baskets of all the US tech ETFs. Meanwhile, IYW and XLK hold only a fraction of the number of companies that FTEC and VGT do. In general though, all four of these funds allocate the largest portion of their assets to software & IT companies as well as computers & home electronics companies. It is worth noting, however, that XLK picks its technology companies from a much more restrictive universe: It only includes tech companies that are in the S&P 500—that means XLK investors miss out on many mid-, small-, and micro-cap companies. IYW also culls its portfolio from a restrictive universe but still holds nearly twice as many holdings as XLK and includes exposure further down the market cap spectrum.
The remaining funds range from the quant- and technicals-driven ETFs to the equal-weighted funds. The quant- and technicals-driven funds include FXL and PTF. FXL uses a combination of technical and fundamental factors to select its portfolio then uses a tiered weighting scheme to assemble its portfolio. FXL’s methodology currently tilts it toward smaller companies and ultimately produces the smallest portfolio as measured by weighted average market cap. Meanwhile, PTF’s momentum based strategy tilts the fund toward smaller growth companies and semiconductor firms.
The equal-weighted funds (MTK, QTEC, and RYT) differ in their respective starting universes from which they pull stocks. QTEC only includes NASDAQ-listed companies; RYT only includes companies from the S&P 500; MTK, on the other hand, culls from a more expansive starting universe that also includes foreign tech giants that have liquid ADRs.
Lastly, PSCT is the only fund to specifically target small-cap tech companies which produces a very different portfolio from the others in the segment: Specifically, one of the highest P/E ratios, and lowest weighted average market caps.
Each of the approaches here produces different sector tilts as well as different allocations along the size spectrum. Investors trying to choose between the funds should first consider whether they want a broad, representative fund or if they want a fund that makes bets toward a specific subset of firms. Check out individual fund reports for more information on each fund. (Insight updated 11/22/17)