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Tapping into Technology ETFs

Tapping into Technology ETFs
By Ron DeLegge, Editor
March 27, 2009

SAN DIEGO ( Ė What do Dell Computer (NasdaqGS: DELL), Intel (NasdaqGS: INTC), and Microsoft (NasdaqGS: MSFT) all have in common? Answer: Each of these stocks has underperformed their peer group, S&P technology stocks, over the past five years. Put another way, investors wouldíve been better off owning a technology sector ETF than owning any of the individual stocks mentioned above.

Ten years ago, investing in emerging technology stocks was the fast road to riches. As it turns out, it also became the quick road to poverty. History shows the number of investors that lost money from failed technology start-ups and initial public offerings (IPOs) generously exceeded the tiny handful of winners.

In todayís tough economic times, investors want to invest in industry sectors that have innovation and are nimble. At the same time, they want to invest without the risk of betting on individual stocks which can explode in any direction at any given moment. Where can you go?

Take a look at technology stocks. So far in 2009, the Dow Jones Industrial Average (NYSEArca: DIA) has declined by 8.99% and the S&P 500 (NYSEArca: SPY) is down 7.83%. In contrast, S&P technology stocks have bucked the downward trend by posting modest gains.

The technology industry sector encompasses companies involved in consulting, hardware, Internet, networking, software, semiconductors, and telecommunications.

Hereís a short list of ETFs that invest in technology stocks:

Technology Select Sector SPDR (NYSEArca: XLK) +4.93% (YTD Gain)*
This ETF follows technology stocks within the S&P 500. The technology industry accounts for 21.64% of the S&P 500ís overall sector weighting, making it the largest sector within the index. With just under $1.6 billion in assets, XLK is the largest technology ETF. There are 79 technology stocks inside XLK.  

In 2008, XLK declined by 41.39% compared to a 38.49% fall in the S&P 500. AT&T (10.14%), Microsoft (8.98%), and IBM (8.64%) represent the fundís three largest holdings in order. XLKís annual expense ratio is currently 0.21%.

Vanguard Information Technology ETF (NYSEArca: VGT) +7.08% (YTD Gain)
This Vanguard ETF follows the MSCI US Investable Market Information Technology Index. The fund has around $300 million in assets and this particular technology ETF is the most diversified among similar offerings. VGT currently has 400 stocks and the median market size of technology stocks is $71.6 billion.

In 2008, VGT declined by 42.83% compared to a 38.49% fall in the S&P 500. Microsoft (10.80%), IBM (7.70%), and Cisco Systems (6.50%) represent the fundís three largest holdings in order. The fundís annual expense ratio is 0.25%.

Rydex S&P Equal Weight Technology ETF (NYSEArca: RYT) +10.51% (YTD Gain)
This ETF shadows technology stocks within the S&P 500, but with a twist. Instead of weighting the companies by their market capitalization or size, it weights each stock equally. The net effect of equal weighting a stock index is a bias towards mid and small company stocks.

In 2008, RYT declined by 45.73% compared to a 38.49% fall in the S&P 500. Each one of the 79 stocks within RYT receives an equal weighting and the underlying index is rebalanced every quarter. RYTís annual expense ratio is 0.50%.

PowerShares QQQ Trust (NasdaqGS: QQQQ) +5.79% (YTD Gain)
This popular ETF follows the NASDAQ-100 (not to be confused with the NASDAQ Composite), which contains just 100 of the largest non-financial stocks listed on the NASDAQ stock exchange. Although it wasnít necessarily designed as a pure sector ETF, QQQQ is heavily weighted toward technology stocks.

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In 2008, QQQQ declined by 41.67%. If you want pure market exposure to a broad basket of tech stocks, QQQQ is probably not the right fund. Because it only contains technology stocks listed on the NASDAQ, it misses owning stocks like International Business Machines (NYSE: IBM), Hewlett-Packard (NYSE: HPQ), Texas Instruments (NYSE: TXN) and many others listed elsewhere. The fundís annual expense ratio is 0.20%. 

PowerShares Dynamic Technology Sector Portfolio (NYSEArca: PTF) -0.25% (YTD Gain)
This PowerShares Technology ETF is more of a portfolio strategy than a market index based strategy. Put another way, PTF isnít just attempting to match the performance of major technology equity benchmarks, itís trying to outperform them. Stocks within this ETF are selected using a secretive quantitative formula that screen for factors like fundamental growth and valuation.

In 2008, PTF declined by 41.11% compared to a 41.39% fall in S&P technology stocks. Each one of the 60 technology stocks within PTF receives a modified equal weighting and the underlying index is rebalanced every quarter.

Be very careful with PTFís tricky expenses. The fund has a stated gross expense ratio of 1.65% and a temporary expense cap of 0.60%. While this gives it an artificially low net expense ratio of just 0.70%, that expense cap expires on August 30th, 2009 according to the fundís prospectus. If the recent fee increases in PowerSharesí Dynamic Sector ETFs is any indicator, PTFís annual expenses could be higher in the future. 

Finding a Place for Tech in Your Portfolio
Technology ETFs are an excellent choice to help you build the growth portion or your investment portfolio. Historically, tech has been a growth sector characterized by rapidly evolving technologies and innovative break-throughs. Instead of trying to guess which individual technology stocks will be this or next yearís big winners, tech ETFs allow you to own a diversified basket of stocks within the sector and to avoid the risk of choosing the wrong stocks.

Even though technology ETFs posted negative performance last year, they are among the best performing industry sectors so far in 2009.

Which technology ETFs are right for you? And which ones best represent the technology sector? In our March 11th weekly ETF picks we profiled one technology fund we believe can do well even during difficult economic times like this. Knowledge is power, so check it out.

*Performance through 3/26/09 market close

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