Under The Hood: A Better Way to Tech
By ETF Professor | January 30, 2013 5:16 AM EST
Last week, Apple (NASDAQ: AAPL) reminded investors that although it is the largest technology company, it is far from being the perfect stock in that sector. Apple's recent woes have also reminded investors that it is possible to profit with select tech ETFs that skimp on Apple.
The First Trust Technology AlphaDEX Fund (NYSE: FXL) proves that notion. FXL, like many of the AlphaDEX ETFs uses a screening process that often leads to superior returns compared ETFs using the usual market capitalization weighting methodology.
FXL is comprised of members of the Russell 1000 Index that are ranked on growth factors including three, six and 12-month price appreciation, sales to price and one year sales growth, and value factors such as book value and return on assets. In the case of FXL, the result is a 90-stock ETF that is not dominated by the largest tech titans.
Actually, no single stock dominates FXL as the ETF's largest holding is Marvell Technology (NASDAQ: MRVL) with a weight of just under 2.4 percent. Only four other stocks receive weights of two percent or more in the fund. Semiconductor names account for over 21 percent of the fund's weight. Instruments and components makers chime in at 18.5 percent while software makers receive an allocation of 17.9 percent.
The median market cap within FXL is $6.35 billion, but the fund does include plenty of the most familiar technology names such as Intel (NASDAQ: INTC), Cisco (NASDAQ: CSCO), Google (NASDAQ: GOOG) and yes, Apple. Still, FXL's methodology has set the fund apart relative to other tech ETFs in 2013.
Following Monday's close, FXL sported a year-to-date gain of almost seven percent, which is better than twice the returns offered this year by the PowerShares QQQ (NASDAQ: QQQ). To be precise, FXL was up 6.9 percent year-to-date after Monday's session. That means the ETF outperformed the Technology Select Sector SPDR (NYSE: XLK) and the iShares Dow Jones US Technology Index Fund (NYSE: IYW) by 500 basis points.
Noteworthy is the fact that FXL's relative outperformance of its peer group has not come with excessive volatility. The ETF is only slightly more volatile than QQQ and noticeably less volatile than IYW and QQQ.
There is no such thing as a free lunch, however, and that pertains to FXL that means the ETF will outpace its rivals in some market environments, though not all. For example, a major Apple rebound would not mean much to FXL because the stock is the ETF's smallest holding with a weight of just 0.3 percent. Over the past two years when that stock soared, FXL still move higher, but it lagged the aforementioned competing funds.
Still, there are aspects of FXL investors should consider. While the ETF is far smaller than QQQ or XLK, $192.3 million in assets under management is by no means tiny. Average daily volume of less than 161,000 shares pales in comparison to XLK, but the fund is sufficiently liquid. In the fourth quarter of 2012, there were just 10 days during which FXL closed at a premium of up to 49 basis points to the midpoint of its bid/ask spread, according to First Trust data.
Valuation will like the fact that while the tech sector looks inexpensive, FXL is as well. XLK has a P/E ratio of 13.1 and a price-to-book ratio of 3.06. FXL's P/E ratio of almost 14.7 is obviously higher, but the fund's price-to-book of 1.99 and a price-to-sales ratio of 0.81 might be saying FXL is offering some value even after rising 13.2 percent in the past 90 days.
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