The technology sector continues to exert an overwhelming influence on the market, significantly impacting exchange-traded fund (ETF) flows. Since the recent low of the S&P 500 on March 30, technology ETFs have absorbed the majority of sector flows, leaving other sectors competing for limited investment.
Investors seeking to diversify their portfolios after a tech-driven market surge face a considerable challenge: ensuring that their chosen diversifiers do not merely repurpose tech investments under different labels. This is proving to be a complex task, as highlighted by Todd Sohn, an ETF strategist from Strategas. He pointed out that technology has attracted the lion’s share of sector ETF flows since the spring low, while other sectors have seen slight negative net inflows.
This trend is also evident when examining the composition of specific ETFs. For instance, technology now comprises over half of both the Invesco Nasdaq 100 ETF (QQQM) and the iShares Russell 1000 Growth ETF (IWF). However, what stands out is the significant presence of tech stocks even in funds that are intended to adhere to different investment themes. Sohn’s analysis reveals that tech constitutes almost half of the iShares MSCI USA Value Factor ETF (VLUE), which is unexpected for a fund typically focused on value stocks. Similarly, the iShares MSCI USA Momentum Factor ETF (MTUM) and the iShares MSCI USA Quality Factor ETF (QUAL) also have substantial tech exposure, with the latter surpassing one-third. Furthermore, the iShares MSCI Emerging Markets ETF (EEM) carries more than 40% in technology stocks.
For many investors, this means they might possess more exposure to technology than they realize, even when consciously avoiding tech-specific ETFs. As diversifying away from tech becomes a pressing consideration, various alternatives have been explored.
Investors looking to balance their portfolios with lower tech exposure can consider funds such as the Invesco S&P 500 Low Volatility ETF (SPLV), the First Trust Morningstar Dividend Leaders Index Fund (FDL), the iShares Core High Dividend ETF (HDV), the ProShares S&P 500 Dividend Aristocrats ETF (NOBL), and the Invesco S&P 500 Pure Value ETF (RPV). These options offer less direct tech exposure but may lag in performance during periods when growth stocks are leading.
Another potential avenue for diversification lies in consumer discretionary stocks. Currently, this sector has not been performing as robustly as others, with it ranking in the bottom decile of relative performance over the past 20 years. Sohn suggests the Invesco Leisure and Entertainment ETF (PEJ) as a preferred option for tapping into consumer recovery, especially as it focuses more on areas like travel, leisure, hotels, and entertainment rather than major players like Amazon and Tesla, which dominate the traditional discretionary sector.
As the tech sector continues to command attention and resources, investors are compelled to navigate a landscape where diversification is more challenging than it has been in the past, highlighting the need for careful analysis and strategic choices.
