I bought a little of the sector index XLK because it is concentrated on all the hi-cap tech stocks which are doing great right now, and although it may be rich (along with the prices of these stocks), I still think they may run further with earnings coming out.
Here's an article for the Washington Post that explains more about these and other sector groups:
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Select a Sector With Index SPDRs
By James K. Glassman
Sunday, January 3, 1999; Page H01
A good resolution for the new year is to stop trying to find mutual funds that can beat the market -- when only about one in eight has lately been able to do the trick. But is there a profitable haven for the dollars of investors who don't have the time or inclination to study individual stocks?
Yes, lots of places -- including some exciting new ones, just launched in the past two weeks.
The most popular venue for those who don't trust mutual fund managers is the index fund, which itself is a mutual fund owning all the stocks in the Standard & Poor's 500 or some other index that's a proxy for part (or all) of the market.
Since you don't have to pay a supposedly brainy human being to make the stock picks, management fees are very low. Vanguard Index 500 Portfolio (1-800-662-7447), with an expense ratio of a mere 0.2 percent, compared with 1.3 percent for the average managed fund, is now the largest stock mutual fund in the world.
And with good reason. While the fund won't beat the S&P 500, it will come within one-fifth of a percentage point every year. Also, since there's little turnover, it's unlikely to generate big tax bills -- until, of course, you remove your money, which should be a very long time from now.
Just as important, index funds don't pretend to be able to pick winners and losers. Instead, all the stocks are there, usually according to market capitalization, or the value that investors place on them. And, since none of us can see the future, index funds make sense.
But what if you want a portfolio of more specialized stocks? High tech, for instance, or financials?
Now, at last, there are some excellent, low-cost choices. On Dec. 22, shares of nine new sector index funds began trading on the American Stock Exchange. These aren't traditional, open-end mutual funds. They're called SPDRs (pronounced "spiders") and are actually long-term unit investment trusts -- in other words, packages of stocks that are intended to mimic a particular index and which change in composition only when the index changes.
SPDRs, or Standard & Poor's Depositary Receipts, have been around for six years -- the first one was based on the S&P 500 itself. Currently, 93 million shares of this popular SPDR are outstanding, worth about $11 billion and trading under the symbol SPY. This year, in fact, S&P 500 SPDRs were the third most actively traded stocks in America, after Cendant Corp. and Compaq Computer Corp., Jay Baker, vice president in charge of selling SPDRs at the newly merged Amex-Nasdaq, told me.
The S&P 500 SPDRs provide an alternative to owning an index fund such as Vanguard's, but the choice is not always a good one. SPDRs charge more in expenses -- 0.65 percent annually -- and, while there's no commission when you buy a Vanguard (or any other no-load) fund, you have to pay a broker (even if it's just eight bucks) to buy SPDRs. These S&P 500 SPDRs tend to be popular with institutions and traders who jump in and out of the market; Vanguard, by contrast, does its best to keep such speculators out of its funds.
With the new Select Sector SPDRs, as they're called, that 0.65 percent expense ratio looks awfully good -- even on top of round-trip commission costs. The reason is simply that most of the sector mutual funds that do exist are expensive. Fidelity, which dominates the sector business, charges a 3 percent load for its "Select" funds -- along with hefty expenses. For example, Fidelity Select Technology (1-800-544-6666), which has performed well over the past 10 years, has an expense ratio of about 1.4 percent; Select Energy Portfolio, 1.6 percent.
Also, the managers at Fidelity's sector funds are making choices, buying and selling stocks. Adam Hetnarski, manager of Select Technology, has notched turnover rates of more than 500 percent in each of the past two years, meaning that he keeps the average stock less than three months.
The portfolios of the sector SPDRs, by contrast, are each composed of relevant stocks from the S&P 500, picked (if that's the word) by S&P and Merrill Lynch & Co. The lists are meant to stay in place, with only minor tweaking each year, like the S&P 500 itself.
For example, the Technology Sector SPDR (symbol: XLK) is based on the Amex technology select sector index, which is made up of 79 companies. The weighting of a stock in the portfolio is determined strictly by its market cap. Here are the top 10, along with the percentage of assets each represents:
Microsoft Corp. (MSFT), 15 percent; Intel Corp. (INTC), 9 percent; International Business Machines Corp. (IBM), 7 percent; Cisco Systems Inc. (CSCO), 6 percent; Lucent Technologies Inc. (LU), 6 percent; AT&T Corp. (T), 6 percent; MCI WorldCom Inc. (WCOM), 5 percent; Dell Computer Corp. (DELL), 4 percent; Compaq Computer Corp. (CPQ), 3 percent; and Hewlett-Packard Co. (HWP), 3 percent.
While you can buy funds that specialize in technology, you are at the mercy of the whim (or genius) of the fund manager. For instance, at last report, the top three stocks in the portfolio of Merrill Lynch Technology (1-800-637-3863), which carries a maximum load of 5.25 percent and expenses of 1.3 percent annually, were Creative Technology Ltd. (CREAF), Micron Technology Inc. (MU) and Integrated Device Technology Inc. (BF on the London Exchange).
Only Micron can be found in the SPDR portfolio, the others being too small. Creative is a Singapore-based multimedia company whose big brand name is "Blaster." Integrated is a tiny microchip firm that trades in Britain.
All of these may all be excellent stocks, but, if you would rather expose yourself to the full panoply of technology firms -- at roughly the proportion of their importance to the economy -- rather than to the selections of managers, then SPDRs are the ticket.
They have become popular, Baker says. In their first few days of existence, $500 million worth of shares of the sector SPDRs have been traded.
One that bargain hunters will find attractive right now is Basic Industries (XLB), mainly because the sector is so far out of favor with investors. Top holdings are DuPont Co. (DD), at 20 percent of the portfolio; Monsanto Co. (MTC), 9 percent; Dow Chemical Co. (DOW), 7 percent; and International Paper Co. (IP), 4 percent.
Also worth considering is a broader SPDR called Consumer Services (XLV), whose companies have strong brand names in fast-growing businesses, mainly media. Among the 47 holdings, the largest are Time Warner Inc. (TWX), 13 percent; Walt Disney Co. (DIS), 10 percent; McDonald's Corp. (MCD), 8 percent; Tele-Communications Inc. (TCOMA), the cable-TV system operator, 5 percent; MediaOne Group Inc. (UMG), 5 percent, broad-band services; and Carnival Corp. (CCL), cruise line, 4 percent. Smaller stocks in the fund include Gannett Co. (GCI), owner of USA Today, and Deluxe Corp. (DLX), the check printer.
One characteristic of sector SPDRs is that they are heavily concentrated in a few stocks. The number-one holding of a traditional mutual fund might represent only 3 percent of total assets, so, if it drops by 50 percent in price, the fund as a whole falls 1.5 percent. But if DuPont tanks, it can drag the Basic Industries SPDR down by one-tenth or more.
Be warned that highly concentrated SPDRs can be volatile, but my own complaint about most traditional funds is that they are too diversified.
The six other new Select Sector SPDRs are Consumer Staples (XLP), another broad portfolio ranging from pharmaceutical companies to retailers; Utilities (XLU), which, unfortunately, is skewed toward Baby Bells at a time when a gas and electric utility index fund would be very useful; Cyclical/Transportation (XLY), for companies in businesses especially affected by the ups and downs of the economy, such as automakers and airlines; Energy (XLE), mainly oil and gas, with Exxon Corp. (XON) and Royal Dutch Petroleum Co. (RD) representing two-fifths (too much!) of the portfolio; and Industrial (XLI), which is dominated by General Electric Co. (GE) but includes a wide variety of excellent firms, including some, such as Cummins Engine Co. (CUM), that will delight value-stock lovers.
Also trading on the Amex is a SPDR for mid-cap stocks (MDY), based on the S&P 400, which has risen 35 percent in the past three months, a SPDR-like trust called Diamonds (symbol: DIA) comprising the 30 stocks of the Dow Jones industrial index; and 17 different WEBS (World Equity Benchmark Shares), which track Morgan Stanley & Co.'s country indexes.
And here's good news for lovers of the Nasdaq 100, which I lauded in my column on monster-caps last month: The Amex will launch a SPDR based on this index, probably by April, Baker says.
Short of purchasing all the stock individually, you can buy the Nasdaq 100, which had returned 85 percent for the year through Dec. 24, only through a Rockville-based mutual fund called Rydex OTC (1-800-820- 0888), which, unfortunately, requires a minimum investment of $25,000 and charges an absurd expense ratio of 1.3 percent.
The new SPDRs haven't been priced yet, but you'll be able to buy a single share, probably for around $25, with expenses of 0.65 percent. It's hard to see why anyone would want to own Rydex OTC under those circumstances.
Still, the SPDR family shouldn't replace all your fund and stock holdings. For one thing, I still find searching for great funds an exciting -- though frustrating -- intellectual pursuit. But, as investing becomes more and more democratic, these are wonderful choices to have.
More Low-Cost Choices
Here are nine new sector index funds that began trading on the American Stock Exchange on Dec. 22.
Ticker Sector Closing price
12/31/98
XLB Basic industries $21.92
XLV Consumer services 26.00
XLP Consumer staples 27.16
XLY Cyclical/transportation 26.13
XLE Energy 23.34
XLF Financial 23.44
XLI Industrial 24.56
XLK Technology 32.63
XLU Utilities 30.23
SOURCE: Bloomberg News
© Copyright 1999 The Washington Post Company
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