One of the most interesting changes in recent years has been the subtle shift – at the edges – within the exchange traded fund (ETF) business model. Traditionally these cheap index tracking funds have been properly passive – look for a big, deep, liquid market, fix on an index and then buy the best tracker. This is passive in the truest sense of the word as you are not trying to second guess the latest trends or most interesting ideas – you are buying the broadest, deepest ‘market in its entirety.
The rise of ETFs with a thematic twist has slightly upended that traditional model. These more focused funds might choose to say one or a few sectors and then zero in on a sub basket of stocks and then put them in a bespoke index. This approach is much more active though it’s important to say that this isn’t an actively managed fund approach – that would require the fund’s manager to make active decisions about the holdings independent of the index.
Another way of explaining the difference is that you can have an active approach to the fund itself (traditional active managers) or a more active approach to the index your fund is tracking. In this latter approach the intelligence and insight is encoded within the index, whereas with the former its built into the stock selections by the manager.
I don’t in truth think there’s a right or wrong in either approach except that true passive types – people like the index tracking pioneer the late Jack Bogle who founded Vanguard – would have regarded these more active indices with horror. Their whole point was that second-guessing which trends/sub sectors / groups of sectors might do well was a pointless exercise in predicting the future. Just as one is usually too late to finding a successful active manager, most of the time we’ll be too late to a new trend or theme.
But for more active investors, especially those of an adventurous inclination, I am not entirely sure this cool detachment is always true. Its clear that momentum driven trends can last for many months and years and that an agile investor can ride these waves and generate big profits, although the risk (usually in volatile share prices) is equally obvious.
Which brings me nicely to the concept of focused tech investing, using particular themes and trends. Over in the FT next weekend I will be talking in my next column about the new grid and battery stocks where – judging by Tesla’s share price – there’s a huge dislocation opening up. Betting against the new electric investment ideas has frequently been a painful ride.
UK fund issuer HanETF has been especially active in the tech index tracking space with issues that track everything from the emerging markets e commerce space through to cloud firms. Their latest issue – out earlier this week – is called the Digital Infrastructure and Connectivity UCITS ETF (ticker: DIGI for the USD version and PIGI for GBP version) and ticks all the boxes.
In a sense there’s tech and then there is real TECH! What I mean by this is that many of the FAANGs such as Facebook or Alphabet are in fact media businesses that happen to also be tech businesses. Ditto in a sense for Amazon which of course has a huge tech business – the AWS cloud – but is mainly an ecommerce business while Apple is obviously a tech business but is also really a consumer discretionary brand. My point in labouring this point is that there are by contrast a bunch of businesses that are involved with the tech hardware of the internet i.e the picks and shovels outfits. This new ETF actively focuses on this sub sector of stocks, animated by the forecast that global internet traffic is expected to grow 370% by 2022 as the number of users, the number of devices per user, and the amount of data per device all increase
According to HanETF the key themes within the index (the Tematica BITA Digital Infrastructure and Connectivity Index ) themes are as follows:
|Data centres:||The connective hubs and backbone that allow for the communication, processing, backup, and distribution of data across vast digital networks. Example companies include Equinix (EQIX) and Digital Realty Trust (DLR).
|Data networks:||The mobile, cable, and fiber networks that are the connective tissue of the digital infrastructure. Example companies include F5 Networks (FFIV) and ACI Worldwide (ACIW).
|Digital connectivity:||Communication chips that enable cellular, WiFi, Bluetooth, and Near Field Communication (NFC) and other communications protocols that connect our wired and mobile devices to the digital infrastructure. Example companies include Qualcomm (QCOM) and Skyworks (SWKS).
|Digital transmission:||The transceivers, multiplexers, servers, routers, fiber, card readers and receivers that comprise the connective hubs. Example companies include Cisco Systems (CSCO) and Ericsson (ERIC).
|Digital processing:||Processor chips utilized in routers, network switches, and other digital infrastructure equipment. Example companies include NVIDIA (NVDA) and NXP Semiconductors (NXPI).
|Digital services and intellectual property:||Platforms, essential services and other solutions that support digital infrastructure. This also includes R&D intensive companies and their licensing business models that develop cutting-edge digital and networking technologies. Example companies include Square (SQ), Cloudera (CLDR) and InterDigital (IDCC).
Returning to my initial observation, the reason for this active selection of a sub sector of stocks is based around the idea of alpha i.e a “better”, more focused basket of stocks that can produce outperformance versus the ‘passive’ benchmark. According to HanETF this index returned 40.87% over the last 12 months (to 30 September 2020). Looking a bit further back the index returned 49% in 2019, 0% in 2018, 28% in 2017 and 33% in 2016. With 84 stocks it’s a fairly tight sub section of stocks with a 27% overlap against a benchmark index such as the Nasdaq 100. I have also listed the most recent top holdings within the index, which boasts some familiar names such as AMD, Nvidia, Intel, Paypal and Qualcomm along with less well-known names such as Acacia, MediaTek and Xilinx.
As funds go, this looks well suited to the investor who wants to focus on the harder end of the digital infrastructure revolution barrelling down the track as a result of 5G and the internet of everything. There’s also much less risk from regulatory badgering and the spill over impact of the US/China dust up might be less cataclysmic!
|Advanced Micro Devices Inc||5.13%|
|NXP Semiconductors NV||3.87%|
|Acacia Communications Inc||3.51%|
|Renesas Electronics Corp||3.14%|
|PayPal Holdings Inc||1.96%|
|Cisco Systems Inc||1.40%|
|Skyworks Solutions Inc||1.23%|
|Marvell Technology Group Ltd||1.20%|
|Infineon Technologies AG||1.18%|