Pandemic Lifts Video Game ETFs

Few sectors are as well-suited to a pandemic as the video game industry.

As consumers have spent more time inside getting quality time with their screens, almost all corners of the video game industry have benefited, from traditional game publishers to online-only, free-to-play game developers to streaming services and beyond.

Not surprisingly, video gaming ETFs have performed remarkably well year to date, with all four ETFs outperforming the broader market by significant margins:

Source: StockCharts.com; data as of June 2, 2020

However, you might have noticed a staggering difference between the returns of the best-performing gaming ETF and the worst-performing. The Global X Video Games & Esports ETF (HERO) has risen 25% year to date, while the Roundhill BITKRAFT Esports & Digital Entertainment ETF (NERD) has returned only 12%.

Of course, that's still much better than the SPDR S&P 500 ETF Trust (SPY), which has lost 5% year to date:

Performance, Video Game ETFs vs. SPY

Source: ETF.com; data as of June 2, 2020

Still, it's a huge difference—one that, once again, all comes back to exposures. Video game ETFs offer a fascinating case study of what we're always saying here at ETF.com: You've got to know what you own.

Oldest Video Game ETF Sees Outflows In 2020

Year-to-date flows into video game ETFs have been strong, with a combined $213 million in new net investment dollars entering the space since Jan. 1, or more than half of their current total assets of $416 million.

Interestingly, though, that money hasn't been going into the oldest ETF, the Wedbush ETFMG Video Game Tech ETF (GAMR).

That's unusual for thematic ETFs, where investment assets are often dominated by the fund came to market first. For thematic plays, first-movers usually possess a significant marketing edge that's tough to overcome.

Yet GAMR has actually lost money year to date, with the fund seeing $4.6 million in net outflows since Jan. 1:

Flows, Video Game ETFs

Source: ETF.com; data as of June 2, 2020

This could be due to GAMR's comparatively high expense ratio of 0.75%—its competitors are priced at 55 basis points or fewer—and its overly broad portfolio may also have turned off investors.

GAMR Includes Apple, Microsoft

Launched in 2016, GAMR offers perhaps the broadest interpretation of what it means to be a video game company.

It breaks the industry into three segments: pure-play companies, which are software/hardware developers whose revenue depends solely on goods and services to the gaming industry; nonpure-play companies, which are companies that derive some but not all of their revenues from the gaming industry; and gaming conglomerates, whose business model broadly supports the gaming industry.

In all, 90% of the 86 companies in GAMR's portfolio fall into the pure-play or nonpure-play categories, while the other 10% go to conglomerates; meaning, there's plenty of room in the portfolio for companies whose primary business isn't video game development or publishing.

For example, among GAMR's holdings are Apple (AAPL), Microsoft (MSFT) and Sony (SNE). While Microsoft and Sony have two popular lines of home gaming consoles, the Xbox and PlayStation  gaming represents only a fraction of these companies' total revenues.

(Use our stock finder tool to find an ETF’s allocation to a certain stock.)

In the case of Apple, the case for inclusion is even less clear. Sure, iPhone gaming is a thing—a multibillion-dollar thing—but it's only a small part of Apple's total revenues.

None of these three stocks appear in any of the other video gaming ETFs.

eSports: A Primer

GAMR is also the only video gaming ETF to not have explicit coverage of eSports in its investment objective (though in practice, it does have some limited exposure in its holdings).

Essentially, eSports are live, organized sporting leagues and tournaments, just like football or basketball—except instead of throwing a ball, players are clicking a mouse or controller button.

eSports are big business, with global revenues now pushing $1 billion, and they've increasingly become a significant money maker for game publishers and developers involved in them. In fact, the line between video gaming and eSports has started to get a little blurry, as many of the largest developers and publishers of traditional PC and console games have branched out into online, multiplayer-supported games that are well-suited for eSports action.

Unfortunately, the COVID-19 pandemic has put the crunch on live events worldwide, and many in-person eSports events have moved online-only or been canceled outright, leading to lost revenue for league operators, tournament organizers and team owners.

That has crimped the momentum of a subsector often pointed to as the future of video games; and it's the most likely reason for the wide gulf in returns of the other three gaming ETFs.

ESPO: The Biggest Gaming ETF

The biggest and most popular fund in the space is the VanEck Vectors Video Gaming and eSports ETF (ESPO). ESPO now has assets under management of $233 million, with investors pouring $134 million in new net cash into the fund this year alone.

ESPO's portfolio is highly concentrated, tracking just 25 companies that derive at least half their revenues from video gaming or eSports. These include game developers, hardware makers, streaming services, eSports games and hardware makers; and those involved in running eSports events, such as league operators, teams, distributors and platforms.

Despite its small number of holdings, ESPO has been somewhat shielded from eSports' stumbles, bolstered by a significant weighting to hardware makers like NVIDIA (NVDA) and Advanced Micro Devices (AMD), 9% and 7% respectively. At the same time, it has a lighter weighting in eSports-centric companies, such as streaming platforms, like Bilibili (BILI) and Dena Co, at 3% and 1%, respectively.

(Use our stock finder tool to find an ETF’s allocation to a certain stock.)

Also, ESPO weights significantly to makers of traditional PC and console video games, with more than 52% of its portfolio invested in names like Nintendo, Square-Enix, Bandai Namco and others.

NERD: Pure-Play eSports ETF

Contrast that with NERD, which is a pure-play eSports fund that delves deep into the burgeoning industry.

NERD takes the same tiered approach as GAMR, sorting stocks into similar pure-play, core and noncore buckets. But NERD's portfolio remains laser-focused on eSports companies, with holdings that include eSports game developers and publishers, streaming platforms, tournament/event organizers, league operators/owners, team owners, gaming hardware and tech companies. No Apples or Sonys in sight.

Recently, however, that laser focus has worked to NERD's detriment. The fund has a hefty weighting in eSports tournament-related stocks that haven't held up as well in 2020.

For example, at 6%, NERD's third largest weighting is tournament organizer/broadcaster Modern Times Group, whose stock price is mostly flat year to date. NERD's fifth highest weighting (5%) is another broadcaster/streaming service, AfreecaTV, which has had similarly mixed performance.

HERO: Like ESPO, But Broader

With an expense ratio of 0.25%, NERD is the cheapest video gaming ETF—for now. The fund will be raising its expense ratio from 0.25% to 0.50% at the end of June, making it same price as HERO.

With its blend of traditional video game companies and eSports, HERO's portfolio is structured much like that of ESPO. Not surprisingly, the two funds also have very similar return characteristics: HERO has risen 25% year to date, while ESPO has risen 24%.

Like ESPO, HERO has a strong weighting in traditional video game publishers and developers. But it also has 41 holdings, compared with ESPO's 25, and more of HERO's holdings are in online/mobile game developers and platforms, especially those based in China, Japan and South Korea.

Interestingly, however, HERO's largest holding (10%) is in very short-term T-bills, which have given the fund a modest boost during the recent market volatility.

The Future Is eSports

While it's tempting to assume, especially to those unfamiliar with the industry, that there really can't be that much variation between video game companies and the funds tracking them, nothing could be further from the truth. The more exposure a company—and an ETF—has to eSports, the worse it has fared in 2020.

But don't get used to it. eSports is the future of gaming—this isn't the author's opinion here, just widely accepted inevitability. Read up on the League of Legends World Championships or Fortnite World Cup if you're still skeptical.

So when the world emerges from lockdown and live eSports events once more resume, we expect the current trend to reverse course, meaning it'll be the ETFs with more exposure to eSports companies that have the stronger growth potential ahead.

Contact Lara Crigger at [email protected]