Last week, Nasdaq announced an upcoming special rebalance of the Nasdaq-100 Index. Most investors in the Invesco QQQ (QQQ) and its younger sibling the Invesco NASDAQ 100 ETF (QQQM) will likely not notice the pending changes. However, the indexing efforts will provide helpful risk reduction efforts to shareholders. They warrant some ETF education.
QQQ and QQQM track the same portfolio of the 100 largest non-financial companies that trade on the Nasdaq. The Nasdaq-100 index methodology includes issuer weight level limitations. Issuers’ weights above 4.5% cannot aggregate to more than 48%. The index is reconstituted annually in December and rebalanced quarterly.
Strong Performance Is Causing a Need for Changes
Due to strong recent performance by mega-cap growth stocks in 2023, Microsoft (12.7% of assets), Apple (12.3%), NVDIA (7.0%), and Amazon (6.7%) were all recently more than 5% of assets. In addition, the two share classes of Alphabet were a combined 7.2%.
Nasdaq plans to announce the new weightings on July 14 and implement the special rebalance prior to the market open on July 24. No companies are being added or removed. This week, some of the mega-cap stocks have and could sell off in expectation of the reduced weightings.
Rebalancing Market-Cap Indexes Is Abnormal
Special rebalances of market-cap weighted indexes due to share price appreciation are extremely rare. Indeed, they do not occur for the S&P 500 Index or the Russell 1000. They are more common for smart beta ETFs focused on equal weighting, momentum, etc.
However, the rebalance can protect investors from themselves. One of the benefits of investing in ETFs like QQQ and QQQM is diversification. Rather than owning Apple, Amazon.com, or Alphabet directly, advisors can use these ETFs to spread the risk around and get exposure to companies in different sectors.
These Are Not Tech ETFs
QQQ and QQQM are often thought to be “technology” ETFs. However, among the mega-cap growth companies beginning with the letter A, only Apple is regularly found in ETFs with technology in the name. Many sector ETFs track the GICS framework, which puts Amazon.com in the consumer discretionary sector and Alphabet in the communications services sector.
In early July, information technology represented 51% of QQQ and QQQM assets, while communications services (17%), consumer discretionary (15%), and healthcare (5.7%) provided sector-level diversification. Outside of the handful of mega-cap technology companies, the ETFs own Adobe, Advanced Micro Devices, Cisco Systems, and Texas Instruments. These companies could see higher weightings post-rebalance.
Year-to-date, QQQM and QQQ were up 38.1% and 37.9%, respectively, outperforming the 16% for the S&P 500 and the Russell 1000 indexes. QQQM has been the stronger performer of the duo, as it has a slightly lower expense ratio (0.15% vs. 0.20%). However, some investors prefer QQQ, as it trades more frequently on a daily basis. QQQM has gathered $5.3 billion of new money in 2023, while QQQ added $2.9 billion.
When advisors look inside QQQ and QQQM later in July, they might look a little different. However, it will be for the right reasons.
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