Comparing Networking ETFs: iShares (IGN) vs. PowerShares (PXQ)

Technology ETFs have been rising to the top of our momentum charts in recent months, as tech-heavy indices like the PowerShares QQQQ outshine broader measures of market strength. Focused tech funds have performed even better, and iShares S&P North American Technology-Multimedia Networking Index Fund (IGN) and PowerShares Dynamic Networking Portfolio (PXQ) have hovered at the top of our Sector Momentum Tracker ETF rankings, as of June 12 holding the No. 10 and No. 20 spots, respectively. While IGN and PXQ share many top-10 components, their underlying methodologies and performance differentiate the funds and should be considered by prospective buyers. While PXQ has a slightly higher fee than IGN does, as well as significantly fewer shares trading hands in the course of an average trading day, this PowerShares offering represents a more appropriate investment for buyers looking to diversify a small amount of their portfolio with networking stocks over the long term.

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IGN tracks the S&P North American Technology-Multimedia Networking Index, which employs a “representative sampling” strategy to rank funds according to factors such as capitalization and yield. The resulting ETF provides the investor with a large-cap, top-heavy portfolio of tech industry leaders. According to Morningstar, 88.22% of the fund can be classified as mega or large cap, while the remaining stocks fall into the medium-size category. IGN, which comprises 28 underlying holdings, currently has allocated nearly 92% of the fund to Communications and Equipment and 8.16% of the fund to Electronic Equipment and Instruments. More than 63% of the fund’s assets are concentrated in the top 10 portfolio holdings, a top-heavy result that makes IGN vulnerable to the movements of stocks that hold the highest allocations. Research In Motion (RIMM) and Corning Inc. (GLW), the top two holdings in IGN’s underlying basket, make up 9.91% and 8.16% of the fund, respectively.

PXQ tracks the Dynamic Networking Intellidex Index, designed to provide capital appreciation by thoroughly evaluating companies based on a variety of investment merit criteria, including fundamental growth, stock valuation, investment timeliness and risk factors. The average market capitalization of PXQ’s components is dramatically smaller than that of IGN’s. Morningstar reports that 47.53% of PXQ’s portfolio is made up of small-cap stocks, while 12.08% of the fund is dedicated to microcap stocks. Less than 16% of the portfolio contains stocks categorized as mega or large cap. While the size of PXQ’s holdings is smaller on average, the fund currently has roughly the same number of holdings as IGN, with 30 stocks currently constituting the fund’s basket. PXQ has a similar sector breakdown to IGN, with most of the portfolio dedicated to hardware and software. The fund’s top 10 holdings make up less than half of PXQ’s assets, just 45.38%, with the largest component, F5 Networks Inc. (FFIV), constituting just 5.16% of the fund.

While FFIV is the No. 1 component in PXQ and the No. 8 component in IGN, this application delivery company makes up nearly the same percentage of both funds’ assets, representing 5.16% of PXQ’s portfolio and 4.52% of IGN’s basket. In addition to FFIV, PXQ and IGN share four other top-10 components: Cisco Systems (CSCO), Brocade Communications (BRCD), Juniper Networks (JNPR) and Tellabs Inc. (TLAB). IGN’s top holding, RIMM, which is absent from PXQ’s top components, could give IGN a boost later this week upon release of highly anticipated earnings. Call options have been especially popular for fans of BlackBerry’s owner, as investors prep themselves for Thursday’s results. With nearly 10% of the underlying portfolio invested in RIMM, IGN’s NAV will likely be affected by the announcement.

Two important factors arguably give IGN’s investors an edge over investors holding PXQ: fees and volume. The management fee for PXQ is 0.60% and for IGN, just 0.48%. As indicated by volume, IGN is also the more popular of the two funds, with a three-month average daily trading volume of 124,000 shares, as opposed to PXQ’s 39,000. While many factors, such as liquidity, affect the viability of an ETF, the size of each fund’s components likely impacts the numbers in this case. IGN’s large top components trade more frequently than do the smaller stocks that make up PXQ, thereby affecting the trading on the fund level.

While some ETF investors will look no further than volume and fees when comparing two subsector funds like PXQ and IGN, other factors may be more important to longer-term investors in this case. Networking is a slice of the technology sector, making these funds particularly concentrated from the get-go. IGN’s methodology further concentrates assets into a few large components, while PXQ’s structure spreads the risk out more evenly over the same number of holdings. Because either fund should make up a small portion of a diversified portfolio, it is important to factor in any overlap when choosing the fund that best complements other holdings that you may have. Since IGN is capitalization heavy, a position in the fund could magnify existing tech positions at the top of already owned index funds. Finally, while news events such as RIMM’s earnings could jolt IGN upward in the short term, PXQ’s more evenly spread assets will help to stabilize the fund over time.

Comments

[JohnScott:]

I have a question.

Can or do ETF's trade at a premium or discount to the underlying assets (which is an index in effect), ?

If they do not, then they should not move based on supply/demand of the ETF itself, but ALWAYS track the underlying even when there are no buyers or sellers of the ETF.

thanks

Jun 19 02:20 PM