The Growing Performance Gap Between The Nasdaq 100 And Other Market Indices

by: Moby Waller

One trend that's caught my attention recently has been the strength of the Nasdaq 100 (NASDAQ:QQQ) (NDX) and the relative weakness of the Russell 2000 (NYSEARCA:IWM) (RUT). Let's delve further into this discrepancy and analyze the reasons behind it.

First for the year-to-date of 2011, the 'Qs' (as they are known) are beating the other major broad stock index ETFs … in addition to IWM, the S&P 500 Index (NYSEARCA:SPY) and Dow Jones Industrial Average (NYSEARCA:DIA) are both lagging the Nasdaq 100, as you can see below.

Note that there's been a 15% price performance gap just for this calendar year between QQQ and IWM, and with trading instruments like options and leveraged ETFs this differential could have been exploited for much bigger gains.

2011 Performance ChartClick to enlarge

Zooming into the second half of 2011, you can see below that QQQ has basically recovered all of the losses incurred in the recent market sell-off. Meanwhile, IWM (which is often considered a proxy for small cap stocks) has incurred twice the losses of SPY and DIA.

Performance Chart, 2nd Half of 2011

Let's look at the holdings, diversification and sectors of QQQ and IWM to see if this can explain the recent divergence in performance. First, here are the Top 10 holdings of QQQ as of the most recent reporting (data below from MSN Finance):

QQQ Top 10 Holdings
Click to enlarge

Note that the QQQ is a market capitalization weighted index and the Top 10 stocks comprise 53% of the total holdings. The Top 4 holdings alone AAPL, MSFT, ORCL, GOOG are nearly 35% of the Qs.

Compare this with the Top 10 holdings of the Russell 2k ETF, which is an equally weighted index, listed below:

IWM Top Holdings

The Top 10 holdings of IWM comprise less than 3% of the total … so basically IWM is a very diversified bundle of 2000 smaller-cap stocks, while QQQ is a highly concentrated basket of the biggest larger-cap (mostly growth) names.

And what of the sector diversification of these 2 widely-traded ETFs? First, we can see below that 63% of the QQQ holdings are defined as Technology stocks.

QQQ Sector Breakdown

Meanwhile in the IWM sector breakdown listed below, we can see that Tech stocks make up only 16% of this index … so the QQQ is much more of a technology play, while the IWM is a market cap play (not a sector one).

IWM Sector Breakdown

Now let's delve into those top holdings of the Nasdaq 100 to see if they can explain why QQQ has outperformed not only IWM, but also SPY & DIA. Here are those top 10 stocks, which again make up over 50% of the QQQ assets:

Microsoft (NASDAQ:MSFT)
Qualcomm (NASDAQ:QCOM)
Cisco Systems (NASDAQ:CSCO)

Below we've plotted the relative performance of these 10 stocks in the 2nd half of 2011. It's interesting that basically half of the ten are down since July, while the other half have made gains. So this isn't necessarily a broad rally of the big name Nasdaq stocks.

AAPL & AMZN jump out (and to a lesser degree GOOG, CSCO, MSFT) as the primary drivers of the Nasdaq outperformance. These two make up over 17% of the QQQ holdings (over 1/6th), with AAPL by far the biggest single holding. One of the takeaways here is how much these large cap Nasdaq names can effect the overall perfomance of the Index.

Top QQQ Holdings, 2nd Half 2011 Performance

Because the QQQ is so heavily weighted to the Technology sector, we then decided to compare it to a leading Technology ETF, the SPDR Select Technology (NYSEARCA:XLK). You can see below that these have traced a very similar pattern recently, with QQQ barely an outperformer.

QQQ & XLK Relative Performance Since JulyClick to enlarge

The Top 10 Holdings of XLK are listed below. Note that 7 of these are the same as for QQQ. The other 3 are NYSE listed stocks IBM, T, VZ which couldn't be in a Nasdaq index. XLK is actually more highly concentrated in its Top 10 holdings than the Nasdaq 100, with 63% of the assets located there.

XLK Top 10 HoldingsClick to enlarge

Bottom line is that there has been a large discrepancy in the performance among the various major stock market ETFs this year, despite the talk of increased sector/stock correlation.

The large-cap technology laden Nasdaq 100 has outperformed the other 'Big 4' market indices, both for the calendar year and since mid-year. You can pinpoint the QQQ relative outperformance down to a few key names. Some of the most widely followed, largest companies have seen buyers come back in despite the market selloff and global economic concerns … a case of the cream rising to the top?

Yet we may draw some other conclusions from the relative underperformance of the small-cap index Russell 2000. In general for the bullish case, one would like to see the Russell 2k show strength, due the growth orientation of small-cap stocks. The fact that IWM is actually the worst of the bunch may be a concern for many investors & traders who are looking for a significant market rebound.

Disclosure: No current recommendation or holdings in the stocks or ETFs listed, but this can change at any time in the future due to the systemized nature of the ETF TRADR recommendations and those of the other BigTrends short-term real-time programs.