People are drawing a lot of information, lessons and forward-looking conclusions from Apple’s (NASDAQ:AAPL) earnings bomb. Well, here’s one more to add to the pile: If you’re invested in any exchange-traded funds or mutual funds, always check under the hood.
When Apple moves, Apple moves. AAPL’s market cap at 8:59 a.m. Wednesday? $563 billion. And at 9 a.m., when Apple had shed more than 4%? $538 billion.
Poof! Just like that, $25 billion pulls a Houdini.
But the thing is, when Apple moves, a bunch of other things move, too.
For instance: On Wednesday, the Nasdaq finished in the red, the S&P 500 flattened out and the Dow Jones gained. That’s no coincidence. The Nasdaq — and, to a lesser extent, the S&P 500 — are heavily weighted in Apple, while the Dow obviously is without. It’s not the whole story, but it’s definitely a big part.
When you take a look at Apple’s effect on a fund level, though, that’s what really hammers the point home.
The Select Sector Technology SPDR (NYSE:XLK) started Wednesday morning down 0.5%. Nothing to get worked up about, but think about this: Of XLK’s 80 holdings, 25 stocks make up 75% of the fund’s weight. Apple, the top holding (at a whopping 20%) fell 4.4% at the open. Of the remaining 24 top holdings …
- 12 were up between 0.4% and 0.8%. Four of those are top 10 holdings that account for about 22% of the fund’s weight.
- Nine were flat, including four of the top 10 holdings
- Three suffered losses of roughly 0.6%. Only one was a top-10 holding.
The remaining 55 holdings had varied movements and essentially were a wash.
In other words, if it were a more balanced fund, XLK wouldn’t be down 0.5% at the open Wednesday. It might be flat, and it might even be up, but Apple’s loss — even though it was the most significant move at the bell — still wouldn’t have been felt so hard. This goes both ways, of course. XLK is heavily weighted in Apple because the company has performed well, and many of the fund’s gains have come on AAPL’s back.
Two more examples: The PowerShares QQQ Trust (NASDAQ:QQQ) is an ETF that tracks the Nasdaq 100 and has a 19% weighting in Apple. And the First Trust Nasdaq-100 EqualWeighted ETF (NASDAQ:QQEW) is an ETF that equally weights the Nasdaq 100 components (weights actually are between 1.18% to 0.64%, but it’s a much tighter spread). And Apple? Just a sparse 1.03%.
Wednesday’s start: QQQ down 0.77%, QQEW up 0.5%.
A slew of other ETFs are heavily weighted in Apple, too, but mutual funds are equally as guilty. For instance: The popular Fidelity Contrafund (MUTF:FCNTX) weighs Apple at about 9%.
But the alarm bells shouldn’t go off only when Apple makes a move. A number of other huge stocks command massive influence over several popular ETFs.
- Exxon Mobil (NYSE:XOM): Nearly 25% of the 90-stock iShares Dow Jones U.S. Energy Fund (NYSE:IYE).
- IBM (NYSE:IBM): Roughly 11% of the 30-stock SPDR Dow Jones Industrial Average (NYSE:DIA).
- Johnson & Johnson (NYSE:JNJ): About 12% of the 120-stock iShares Dow Jones U.S. Healthcare Fund (NYSE:IYH). And Pfizer (NYSE:PFE) accounts for another 11%.
Needless to say (but I’ll say it anyway), it’s crucial to not only know what’s in your funds, but then to keep an eye on what those holdings are doing — especially those with gargantuan weights. Single-day hits like Apple’s 4% slide Wednesday aren’t great, but not devastating. However, a prolonged drop could really start to weigh on unbalanced ETFs.
The effects can be even worse in sector ETFs, where one stock’s bad news could be enough to rattle rival businesses — causing widespread losses across a fund’s holdings, and thus the fund itself.
Remember: While many ETFs and mutual funds are conceptually meant to offer diversification, what you actually get ultimately depends on what securities they hold and how they hold ’em. So, do your homework before buying. And because most funds change their weightings, don’t just put it into cruise control after you’ve bought.
Pay attention. That’s always good advice.