Gallery:Step 3|Step 3: Stock Pickers

Buying Technology Stocks With Exchange Traded Funds

Gallery:Step 3|Step 3: Stock Pickers

These days you can turn on the television, almost 24 hours a day, and see which market savant is buying tech stocks, who has changed their mind and is selling out of tech stocks, who is jumping into biotech stocks, and so forth.

There seems to be a heightened interest in this never-ending game of trying to guess what the different sectors of the market, including tech stocks, are going to do . tomorrow. As if anybody knew.

If one is an active trader, this constant interest is understandable. But I suspect many a long-term investor, one who would just as soon put the larger part of her serious investment assets somewhere where she would not have to watch it on a daily basis, is getting swept up into this trading "noise."

For this serious portion of one's portfolio, an investor could turn to an index class of securities. For the maximum of efficiency I maintain that trading exchange-traded funds (ETFs) is the way to get exposure to the indexes. For instance, an investor or trader could buy the Standard & Poor's (S&P) 500 exchange share (SPY), or the S&P MidCap 400 exchange share (MDY). Both of these securities, like most ETFs, are traded on the American Stock Exchange (AMEX).

If you buy SPY, you are buying a portfolio that already owns technology stocks; technology stocks comprise about 40 percent of SPY. If you go out and fashion a stock portfolio, probably 40 percent in this sector would be considered as a workable, reasonable amount.

If you would rather own smaller companies, but like the 40 percent tech. sector representation, you could buy MDY. MDY is composed of roughly 40 percent tech stocks also. The difference between MDY and SPY is the size of the companies that are in each index.

The median market cap of an MDY company is about $3.0 billion. Stocks of SPY have a larger market cap; usually the stocks in SPY are well over $10.0 billion in size.

Portfolio realignment by S&P

As far as sector portfolio allocation, this has been done for SPY and MDY by the strategists at S&P. The strategists decide where the economy is moving and which sectors should be represented and in what weighting in the indexes. They then choose the companies used to represent these sectors.

The indexes are constantly changing to reflect the underlying U.S. economy.

For instance, the energy industry had grown dramatically in the mid to the late1970s. S&P increased energy sector representation in the indexes as the energy industry grew. By 1980, the energy sector had a rather heavy weighting in the indexes. In contrast, at that time, technology had a much lighter weighting in the indexes, comprising only about 9 percent.

Today, technology has grown to where it represents about 30 percent in the indexes. Energy, declining as a factor in the U.S. economy, has concomitantly shrunk in the S&P indexes. So a holder of the indexes would have had a portfolio realignment without having had made a single trade.

As a further description of how S&P changed the weighting of their index, consider that Exxon (XON), a major oil company, had a number one weighting in the S&P 500 index in the 1980s. As technology grew and the oil industry declined in its importance to the economy, S&P added its weightings of the technology sector. Microsoft, Inc. (MSFT) was added to the S&P 500 Index in 1994. Microsoft continued growing as the technology sector grew. MSFT now comprises about 9 percent of the S&P 500 Index. XON had a shrinking weighting in the Index during the same time.

Another change, highlighting how the S&P indexes stays current with changes in the economy, regards the Financial sector. The sector has grown in its importance in the U.S. economy and, therefore, in its sector weighting in the S&P Index.

From an S&P 500 index weighting of 10 percent in 1980, the Financial sector currently has a 16 percent weighting in the S&P 500 Index.

When to buy tech stocks.

More than the question of when to buy into this growing sector, it might be better to consider if SPY or MDY is right for you. Then determine if you want to overweight or underweight in the group.

You could overweight technology in your portfolio by buying QQQ, an exchange share that tracks the Nasdaq-100 Index. This index is 70 percent weighted in technology stocks, and is a very direct representation in the sector. You could underweight by buying sector SPDRs, such a Utility SPDR (XLU), thereby cutting down on your portfolio weighting in technology.

More important than trying to figure out when the tech. group is going to rally or decline, an impossible task in my view, take a hard look at your own investment objectives. Then weight accordingly. A good financial advisor can often help you in accomplishing this task.

One of the beauties of using ETFs is that when you want in or out, you can do the trade anytime that the market is open. You don't have to wait until the end of the day to a trade with ETFs; with funds you have to wait, perhaps missing an opportunity.

Max Isaacman is a registered investment advisor at East/West Securities in San Francisco. McGraw-Hill published his book 'How To Be an Index Investor' in May 2000. He owns MDY and XLK for himself and customers. His e-mail address is [email protected]