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Portfolio > ETFs

The ETF Advisor: Technology ETFs Ride the iPhone's Wave

By Vaughan Scully

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About thirty years ago, fans would camp out for tickets to rock concerts and new movies, while technology buffs stayed home dreaming. These days, technology buffs camp out for the release of new products, while media and entertainment industry executives worry if their offerings are still relevant in a world of free content and instant video streaming.

The runaway success of Apple’s iPhone, and Research in Motion’s Blackberry before it, is driving a shift throughout the information technology sector that will likely be felt for years to come. Standard & Poor’s Equity Research recommends investors overweight information technology stocks, and has a positive outlook for the technology sector in 2010, where operating earnings per share are expected to rise by 41%.

There are so many information technology ETFs that several different sub-species are apparent. There are a number of broad-market ETFs which have large portions of their assets invested in technology stocks because they track technology-laden indexes such as the Nasdaq 100 or the MSCI Taiwan index. There are also global and regional technology ETFs and specific industry funds targeting areas like software or networking equipment.

To sift through this large and diverse group, we choose to ignore the “proxy” funds that track broad market indexes with large technology components. Among the 25 or so funds remaining, we looked for funds with at least two of the following: low expense ratio, strong returns over the past year, large asset base, and a list of top holdings that is not dominated by mega-cap stocks like Apple and Microsoft.

Among the plain-vanilla technology ETFs, and among technology ETFs generally, the clear leader in assets is the Technology Select Sector SPDR Fund (XLK). It is the oldest and the largest of the technology ETFs, with $4 billion in assets–triple the next largest dedicated technology fund–and it has the lowest annual expense ratio of the group. Its performance over the past year, however, is only average. This is the fund for those who want to load up on the best known large-cap tech stocks: AAPL, MSFT, and IBM account for about 30% of the fund, though it owns 86 different stocks in total.

The U.S. is indisputably the nucleus of the global technology industry, but the more things change, the more that will change also. For now, there is a relatively small group of international technology ETFs. Of these, the only one that is diversified both geographically and on a sector basis is the SPDR S&P International Technology Sector (IPK). While it is a small fund, with just $20 million in assets, and its performance has lagged lately, its expense ratio is less than half what international technology mutual funds charge and its portfolio offers relief from the Apple/Microsoft/IBM triumvirate that rules many technology ETFs. Korea’s Samsung, Japan’s Canon, and Germany’s SAP are the fund’s top three holdings.

A recent addition to the technology ETF lineup, the PowerShares S&P SmallCap Information Technology Portfolio (XLKS) goes even further in providing exposure to lesser-known technology names by targeting the exciting small-cap corner. Launched in April 2010, the fund attracted just $2.4 million in assets, but its low expense ratio and unique portfolio make it worthy of consideration. The fund is well diversified, with 124 different holdings, the largest of which is Skyworks Solutions, a maker of mobile phone chips and components, which accounts for about 3.8% of the fund’s assets.

S&P Senior Financial Writer Vaughan Scully can be reached at [email protected]. Send him your ideas for ETF story topics.

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