A reader left a question about buying best of breed stocks. Specifically he wondered about looking at fundamentally weighted ETFs, and taking what he referred to as the first or second choice of that ETF. He noted possibility doing this for each sector.
I think there are two ETF providers with sector funds that are fundamentally weighted: WisdomTree's foreign products ETFs and PowerShares RAFI sector funds which are domestic. I believe WisdomTree has domestic sector funds in the works.
Let's look at a few sectors, and see what the number one holding gets us; the foreign name first followed by the domestic.
- Financials: HSBC Holdings plc ADR (HBC), Citigroup Inc. (NYSE:C)
- Health: GlaxoSmithKline plc (NYSE:GSK), Pfizer Inc. (NYSE:PFE)
- Telecom: Vodafone AirTouch Public Company (NASDAQ:VOD), AT&T Inc. (NYSE:T) (VOD is a personal holding)
- Industrials: Siemens AG (SI), General Electric Co. (NYSE:GE)
- Energy: ENI S.p.A. (NYSE:E), ExxonMobil Corp. (NYSE:XOM)
The important thing is what gets done from this point. These ten names, and grabbing the top holdings from the other fundamentally weighted sector ETFs, provides a list of fine companies; but I don't think anyone stopping here will end up with very good diversification.
These companies are all certainly large cap, and more likely mega cap. They all have relatively low volatility, tilt, as a group, way to the value side of the style ledger. The foreign exposure tilts very heavily to developed Europe, and there are probably a few other things that don't immediately come to mind.
I think that the idea of building out from here is plausible for anyone with enough time and the realization of what the flaws are of stopping with the best of breed.
All of that being said, I have never thought of starting with "best of breed" in the way the term is used. The term pretty much never enters my consciousness.
Within each sector there are various things I will want to capture, like certain countries, sub-sector themes, emerging market, high-beta and so on. It is the mix of everything that creates the final result, and for me it would take more than 20 large-cap stocks to make it work.