The PowerShares EQQQ ETF provides exposure to the largest non-financial equities listed on the Nasdaq Stock Market and as such, it can be used as a core portfolio holding. The NASDAQ 100 Index is commonly known as “the” US technology benchmark because of its high concentration of technology companies. The tech sector encompasses everything from computer hardware and software to telecommunications and represents almost two thirds of the index’s value. As such, this fund could appeal to investors looking to add a “tech” tilt to a well-diversified portfolio. However investors should be aware that from the perspective of individual names, this ETF is heavily biased towards Apple which accounts for 16% of its market capitalisation.
This fund can also serve as a tactical tool for those looking to place a bet on the near-to-medium-term prospects of the US large cap equity market--excluding financials--and the US technology industry in particular, under the belief that they are undervalued.
Morningstar equity analysts see the overall US stock market close to fair value and as such don’t see much room for strong growth. However, there is some potential for positive surprises from earnings growth. As the index that this ETF tracks is dominated by the technology sector; thus overall returns will be largely influenced by its performance.
In spite of some weak economic data, information technology (IT) spending has remained relatively robust over the past few years. According to Morningstar equity analysts, the technology sector looks moderately undervalued based on a market-cap weighting to their price-to-fair value estimates. However, market sentiment surrounding the PC supply chain grew increasingly negative throughout the last quarter of 2012. On the back of weaker macroeconomic conditions, global chip demand decreased and the semiconductor market slowed as a result of it. Smartphones remain however a key driver for the chip industry.
The US government technically avoided the feared “fiscal cliff” at the turn of the year with a last minute compromise on tax increases and spending cuts. However, the deal still implies a tightening of fiscal policy in 2013 which could negatively impact growth. Besides, uncertainty has not fully disappeared as the US Congress needs to agree on further spending cuts by March in order to lift the country’s debt ceiling, thus putting further pressure on the economic outlook.
In spite of these fiscal issues, the recent trend in the US unemployment has added some positive tone to the economic outlook. After peaking in 2009, unemployment has steadily dropped and currently stands at 7.8%. Encouragingly, long-term unemployment (i.e those out of work for over six months) has also come down. By end 2012 the long term unemployed represented 39.1% of the total jobless; the first sub-40% ready for three years. Market participants don’t expect unemployment to reach 5.5% before 2016.
The US economy expanded by an annualised 3.1% in Q3-12. However, much of the growth came from one-off contributions such as an increase in business inventories; usually a sign of sluggish demand as inventories pile up. Longer-term, the housing market has driven growth for the last six quarters as the sector continues to recover.
Market participants expect GDP to grow by a meagre annualised 1.3% in Q4-12. In particular, the uncertainty over the “fiscal cliff” weighed on consumer confidence during the final months of 2012. The consensus forecast is for GDP to expand by an annualised 1.7% in Q1-13 as concerns over budget policy weigh on sentiment. However, overall, Morningstar expects the economy to strengthen throughout the year.
The NASDAQ 100 Index provides equity exposure to the 100 largest non-financial securities listed on the Nasdaq Stock Market. It is a market capitalisation weighted index representing major industry groups, like computer hardware and software, telecommunications, retail/wholesale trade and biotechnology. The index is calculated under a modified capitalisation-weighted method with the intention to retain in general the economic attributes of capitalisation-weighting while providing enhanced diversification. In order to achieve its objective, the NASDAQ 100 Index is reviewed quarterly and adjusts the weightings of index constituents using a proprietary algorithm, if certain pre-established weight distribution requirements are not met. To be eligible for the index, component stocks must be listed on the Nasdaq Stock market and meet a list of criteria, like being a non-financial company, trading at least 200,000 shares a day and being listed on the stock market for at least two years. As of writing, the index is heavily biased towards the technology sector (64%), followed by consumer discretionary (17%) and health care (12%). The largest index constituent is Apple, representing 16% of the index’s value, followed by Microsoft (7%) and Google (6%). The index is therefore heavily top weighted as the top 10 holdings represent over 50% of the index.
The PowerShares EQQQ Fund uses physical replication to track the performance of the NASDAQ-100 Index. In order to achieve its objective, the index intends to invest in all of the component stocks of the reference index in their respective weightings.
This fund engages in securities lending to generate additional revenues. The lending revenue generated can partially offset the TER. To protect the fund from the counterparty risk that results from this practice, PowerShares takes collateral greater than the loan value. Collateral levels vary but must be in excess of 102%, depending on the assets provided by the borrower as collateral.
The fund may hold up to 20% of its NAV in securities from a single issuer in order to achieve his objectives. Under exceptional market conditions, the fund manager may invest up to 35% of the fund’s net assets in securities from a single issuer. In addition, the fund may also hold up to 10% of its NAV in other collective investments schemes. The fund may also invest in financial derivative instruments, including equivalent cash-settled instruments, dealt in on a regulated market. Moreover, the fund can deploy over-the-counter derivatives and invest up to 20% of its NAV in shares and/or debt securities issued by the same body in order to achieve its objective.
The fund levies a total expense ratio of 0.30%, which is in the upper of the range for ETFs tracking the NASDAQ 100. Other potential costs associated with holding this fund which are not included in the TER include rebalancing costs, bid-ask spreads and brokerage fees.
There is no scarcity of alternatives to this fund. Amundi, ComStage, iShares, Credit Suisse and Lyxor all provide ETFs tracking the NASDAQ 100 at lower TERs ranging from 0.23% to 0.31%. However, the largest fund in terms of assets under management is this ETF from PowerShare, which charges a TER of 0.30%.
Investors looking for a more diversified index providing exposure to US equities could consider using the iShares S&P 500 Index ETF to express their view. The S&P 500 Index’s largest sector exposure is IT (18%), followed by financials (16%) and health care (12%). The biggest single issuer exposure is Apple (4%), followed by Exxon Mobil (3%).