How to Outperform the Nasdaq 100 With Apple

Includes: AAPL, QQQ
by: Paul Zimbardo

The Nasdaq 100 (NASDAQ:QQQ) announced this morning that effective May 2, Apple's (NASDAQ:AAPL) weighting in the widely followed tech index will decline significantly. Specifically, Apple’s weight will decline eight percent, from over 20% to nearly to 12%. Due in part to Apple's recent success, the index was weighting the company twice as highly as it should have on a per-share basis. It appears that the “special rebalance” is necessary because Apple was pushing against the index’s rule that “any individual component security [cannot] represent more than 24% of the total market value of the index.”

Effectively Apple is being punished for being a well-managed high performer while Microsoft (NASDAQ:MSFT), Google (NASDAQ:GOOG), and others are being rewarded for lagging. While I understand the benefits of periodic rebalancing, I like to be in control and not be forced to sell great stocks to buy perpetual underperformers, especially in the same industry. I call that trading down rather than rebalancing, especially when many of the companies benefiting trade at higher PE ratios.

If you are upset by this change and invest in QQQ with a primary objective of obtaining Apple exposure, the solution is theoretically simple but involves trading costs. To restore your Apple position, sell approximately eight percent of QQQ and buy AAPL. If you are even more bullish on Apple, you can increase the percent in the trade.

This is as close to finding a sale on Wall Street as I have ever seen. A company is going to decline multiple percent, through no fault of its own, while its fundamentals are continuingly improving. In early trading Tuesday, Apple shares are down as much as $3.00, or 1%. As Mike Schuster points out, “Apple [is] punished for its success.”

This may not be cost-effective for all investors, but it's an excellent opportunity to potentially outperform the Nasdaq 100. Additionally, I have presented many alternatives to buying Apple outright by using options in my most recent article. For example, you could sell April or May puts.

In closing, do not be surprised if Apple faces continued downward pressure in the second quarter. Many managers will effectively be forced to sell Apple to simply track the Nasdaq 100, as The Wall Street Journal explains:

The rebalancing is likely to kick off waves of trading in the stock market as money managers scramble to adjust holdings to reflect the new composition of the index. There are more than 2,900 financial products tracking the Nasdaq-100 in 27 countries, Nasdaq says. That includes the $24.4 billion PowerShares QQQ exchange-traded fund, which over the past year has been the sixth most actively traded stock on U.S. exchanges.

I ask you: Why simply be content tracking the index when you can beat it?

Disclosure: Author holds long positions in AAPL and GOOG. Author has sold AAPL Apr. 16 360 calls.