When I tell clients that I am investing in mostly passive exchange-traded funds (ETFs), I usually get a follow-up question like, “What is an ETF?” To that, I explain that an ETF is just like a mutual fund in that it is a collection of stocks and/or bonds, but it usually simply tracks an index and is tradeable on an exchange just like a stock. Also, and this gets the most interest, it usually has a lower expense ratio and usually outperforms the efforts of active managers – both being positive attributes.
So, client portfolios will typically hold shares of popular ETFs like IVV, SCHA, MTUM and DVY, but no direct reference to what investments those ETFs hold. Clients who hear their friends bragging about the “killing” they made in Tesla or Facebook have no reason to fear that conversation and, in fact, have just as much to brag about. Following are a few facts about some of the ETFs that are held in some client accounts.
IVV, or the iShares Core S&P 500 ETF is exactly what it says; it mirrors the stocks held in the S&P 500 Index, a broad large capitalization cap-weighted stock index. Holders of IVV, thus, hold shares of all the holdings in the S&P 500 Index. This includes top holdings of Apple (6% of the fund), Microsoft (5% of the fund), Amazon (4% of the fund), Alphabet (3% of the fund), and Facebook (2% of the fund). Certainly, plenty of brand name technology companies to sprinkle into a conversation. In fact, if your portfolio held a 15% weighting of IVV, your total portfolio would have about a total 1% weighting in Apple.
One of the great stock winners in 2020 so far has been Tesla, the electric car maker and other tech innovator that is up an amazing 600% YTD!! So, does my portfolio own any Tesla? It does if the portfolio held the MTUM ETF, the iShares MSCI USA Momentum Factor ETF, since Tesla has been the definitive “momentum” stock as this year progressed. Tesla had a recent weighting in that ETF of almost 7%! So, a 15% portfolio weighting in MTUM yields a total portfolio weighting of about 1%.
Finally, high dividend ETFs have had a tough time this year but are starting to perform better recently. DVY, the iShares Select Dividend ETF, has struggled YTD with -6.24% total return. This is partly due to weak performance in some top holdings in Prudential Financial (2% of fund that is down -12% YTD) and Wells Fargo (2% of fund that is down -44% YTD), but offset by International Paper (2% of the fund that is up +15% YTD) and HP Inc (2% of the fund that is up +11% YTD).
ETFs are designed to offer efficient and inexpensive portfolio exposure to broad classes of investments, without specific regard to the underlying company stocks. So, if your portfolio needs exposure to small capitalization stocks, no need to survey the index and hope that your picks outperform the market. An investment in SCHA, Schwab US Small-Cap ETF, gives you immediate exposure in small cap stocks that track the small stock index. You automatically would own shares in over 1,700 stocks with names of companies you most certainly would never have heard of. SCHA is up 12% YTD; performance that is top quartile and is just a bit off its benchmark the Russell 2000 Index.