It’s probably no surprise to you that technology stocks have been on a roll this year. Broad-based tech indices have doubled or trebled the returns earned by the S&P 500. Not all tech indices are built alike, though. If you’re an index fund investor, the difference between being happy and very happy with your tech returns in large part is due to the benchmark tracked by your portfolio.
Three exchange-traded funds dominate the broad tech sector: the Technology Select Sector SPDR (NYSE Arca: XLK), the iShares U.S. Technology ETF (NYSE Arca: IYW) and the Vanguard Information Technology ETF (NYSE Arca: VGT). All track market cap-weighted indices.
XLK’s portfolio is carved out of the S&P 500 and includes 76 large-cap stocks. About 62 percent of its market cap is concentrated in its top ten companies. IYW tracks the Dow Jones U.S. Technology Index, a 137-stock benchmark with about 10 percent of its portfolio invested in mid-cap companies. About 67 percent of IYW’s weight is committed to its top ten issues. VGT’s reach into the tech sector is the broadest of all. Its 353-stock portfolio replicates an MSCI index that devotes nearly 18 percent of its capital to mid-caps and even a tiny fraction to small-caps. Its top ten stocks, accordingly, take up only 55 percent of the ETF’s heft.
If you look back at the returns of these tech ETFs versus that of the broader market proxied by the S&P 500 SPDR ETF (NYSE Arca: SPY ), you’ll see they pretty much hugged the broad market for a decade (see the chart below). Then, daylight starts to appear, separating their gains from that of the S&P.
So what happened? After all, these tech ETFs, despite the disparity in the number of their holdings, own large positions in pretty much the same stocks. And in like proportion. Indeed, SPY does too. There’s something else going on. But what?
