Two Software ETFs With Very Different Constituents

Merrill Lynch's HOLDRS are largely based on market capitalization and a few stocks usually dominate these ETFs. In contrast, components for the PowerShares ETFs are more evenly distributed and this limits the ability of a few to dominate these ETFs.

There are benefits and drawbacks to both methods. The important thing is for traders and investors to know the components of their ETFs and use this information to their advantage.

For the Software HOLDRS (SWH), the top five components account for over 50% of the ETF. There are 17 stocks in this ETF and the remaining 12 stocks account for less than 50%. Microsoft (MSFT) makes up over 22% and is an important key to the ETF:

In contrast to the Software HOLDRS (SWH), the Software PowerShares (PSJ) ETF features 30 stocks and the top five stocks account for just 26.6%. The largest holding accounts for less than 6% and the remaining 25 stocks account for almost 75%:

There are both positives and negatives to the different approaches. The Software HOLDRS (SWH) can take advantage of a shift into large-caps because it is weighted by market capitalization. The Software PowerShares (PSJ) is better suited when small-caps and mid-caps dominate.

It only takes a few stocks to move the Software HOLDRS (SWH) and traders can take advantage of strength in these stocks. In contrast, it takes broad strength to move the Software PowerShares (PSJ) and this insulates traders from adverse moves in one or two components. A plunge in Microsoft would hurt PSJ, but not as much as it would SWH. This opposite is also true, of course, for a big advance in Microsoft.