The PowerShares QQQ Trust (QQQ) is one of the most popular exchange-traded funds on the market, despite its roots in an index that’s slightly off the beaten path.
The QQQ is based not on the broader Nasdaq Composite, but on the Nasdaq-100 Index, which measures the 100 largest non-financial stocks currently trading on the Nasdaq exchange. And whether by design or practical experience, this index and its affiliated ETF have always been associated with the technology sector.
The truth is that many tech stocks have historically picked the Nasdaq exchange as their home base. Because QQQ culls its underlying holdings from this pool, there is a natural tendency to be overweight the cream of the crop in tech stocks.
However, when you dig beneath the surface, this unique group of stocks actually offers far more than just a one-dimensional focus. Over the years, the QQQ ETF has evolved to include a broader depth of sector dispersion as market dynamics, M&A activity and other growing trends have taken hold.
Understanding the QQQ’s nuances can unveil attractive characteristics for any investor looking to capitalize on a diversified array of top growth stocks.
The current sector makeup of QQQ is 55% technology, 20% consumer discretionary, 14% healthcare, 7% consumer staples, and a small fraction in industrials. Top holdings in this ETF include: Apple (AAPL), Microsoft (MSFT), and Amazon (AMZN). Together these three stocks make up over 25% of the total portfolio, with AAPL garnering 12.65% of the overall weight.
Many of the top stocks in QQQ can be found in specialized sector funds such as the Technology SPDR (XLK). However, the real value in this index is its diversification into other realms such as biotechnology, social media, e-commerce and other consumer-driven themes. Healthcare in particular has been a strong momentum area of the market over the last several years and continues to be a performance differentiator for QQQ.
In addition, the underlying holdings in this ETF are not solely U.S.-based stocks. Many publicly traded international companies such as Baidu (BIDU) and JD.com (JD) are represented in the index as well. This broader diversification has prompted QQQ to become one of the top baskets that market experts monitor on a daily basis.
To date, this juggernaut has accumulated $39 billion in total assets and charges an expense ratio of 0.2%. While the QQQ expense ratio is slightly higher than an equivalent S&P 500 index fund, the embedded cost is still in a reasonable realm for a market-cap weighted ETF.
How to Use This ETF
An ETF like QQQ has many uses within the context of a diversified portfolio. It straddles the line between a low-cost core index fund and a more nuanced tactical position, which makes it a versatile fund for a variety of investor profiles.
More aggressive investors with a long-term mindset may be apt to view this ETF has a core holding from which they can own top companies across a variety of growth-oriented themes. This should come with the implicit understanding that QQQ will likely experience periods of heightened volatility versus ETFs that have greater emphasis on defensive areas of the market.
On the flip side, the QQQ ETF can also be used by active investors to tactically overweight a smaller portion of their portfolio toward high-momentum stocks. This may include taking advantage of a short-term trading opportunity or simply finding value in the sectors that make up this unique index.
Whatever your reason may be for owning this ETF, it should be noted that the underlying holdings are evaluated on an annual basis to stay in line with the index methodology. Stocks that have shrunk in market cap size may be eliminated and others will ultimately take their place. In addition, automatic rebalancing will impact the distribution of assets among the individual stocks in the portfolio.
My advice is to thoroughly research these factors and create a sound game plan before implementing this ETF in your own account.
David Fabian is Managing Partner and Chief Operations Officer of FMD Capital Management. As of this writing, he did not hold a position in any of the aforementioned securities. Learn More: Why I love ETFs, And You Should Too.
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