Investors seeking exposure to the technology sector have a vast array of ETFs or mutual funds from which to choose. There are more than 50 ETFs offered in the category and more than twice as many mutual funds.
Technology sector funds encompass a broad range of companies engaged in providing various goods and services, including Internet service providers, network equipment and services providers, mobile device manufacturers and service providers, semiconductor manufacturers and software companies.
Here is a comparison of two widely held index funds in the category, a Vanguard mutual fund and an ETF from State Street Global Advisers.
Technology Select Sector SPDR ETF
The Technology Select Sector SPDR ETF (NYSEARCA: XLK) was launched by State Street Global Advisers in 1998. It is the most widely held technology sector ETF, with total assets of $11.8 billion. This ETF tracks the S&P Technology Select Sector Index, a subset of the S&P 500 Index that is designed to mirror the overall performance of publicly traded companies in the technology sector. The fund uses a replication strategy, investing in the same equities, and in the same proportions, as the underlying index.
Software and IT services firms dominate the portfolio, accounting for 42.5% of assets, followed by companies in the computers, phones and technology hardware businesses, and then telecommunications services companies. The fund holds mostly large-cap stocks, in a portfolio composed of more than 70 equities. The fund's top holdings include Apple, Inc. (NASDAQ: AAPL), Microsoft Corporation (NASDAQ: MSFT), Facebook, Inc. (NASDAQ: FB), AT&T, Inc. (NYSE: T) and Alphabet, Inc. (NASDAQ: GOOGL). Together, those five holdings account for 41.15% of the total portfolio. The portfolio turnover ratio is a low 5%.
The expense ratio for this ETF is 0.14%, well below the category average of 0.53%. The fund's dividend yield is 1.85%.
The fund's five-year average annualized return is 10.99%, substantially outperforming the category average of 7.68%. Morningstar rates this ETF as low risk, with above-average returns.
Vanguard Information Technology Idx Adm
One of the most widely held technology sector mutual funds is the Vanguard Information Technology Idx Adm (VITAX), launched by Vanguard in 2004, with $8.3 billion in assets. The fund tracks the MSCI U.S. Investable Market Index/Information Technology 25/50, an index composed of small- to large-cap stocks selected to represent the performance of publicly traded information technology (IT) companies. This fund also uses a replication method, holding the same stocks, in the same proportions as they appear in the underlying index.
The portfolio of this fund is much larger than that of the State Street ETF, with a total of more than 350 holdings. However, the top holdings are precisely the same, with Apple, Microsoft and Facebook, and the top five holdings accounting for 40.41% of the total portfolio, very close to the percentage for the ETF's top five holdings. The majority of the fund's holdings account for less than 0.2% of the portfolio's total invested assets. The portfolio turnover ratio is extremely low at just 3%.
The expense ratio for the Vanguard Information Technology Idx Adm is also very low, at 0.1%, as compared to the category average of 1.46%. The fund offers a dividend yield of 1.37%.
The five-year average annualized return is 10.28%, outperforming the category average of 7.14%. Morningstar rates the fund as offering above-average returns with low risk, the same ratings as those for the ETF.
Advantages and Disadvantages
ETFs and mutual funds each have their advantages and disadvantages. ETFs are more easily traded since they trade on exchanges just like stock shares, while mutual funds can only be bought and sold at their end-of-day prices. Mutual funds offer the advantage of being able to purchase shares free of commission. Both types of funds offer small investors the advantages of being able to purchase low numbers of shares. Without taking into account funds that may be held in tax-advantaged accounts, ETFs are typically a more tax-efficient investment. They also tend to have significantly lower expense ratios than mutual funds, as a comparison of the category averages in this case, 0.53% versus 1.46%, clearly shows.
Comparing the Two Fund Choices
A comparison of these two particular funds shows them to be very similar in most respects, with neither fund having a strong advantage over the other. The Vanguard Information Technology Idx Adm mutual fund gains a slight edge by virtue of its lower expense ratio of 0.1% versus the ETF's 0.14%, and slightly lower portfolio turnover ratio. However, the Technology Select Sector SPDR ETF's five-year average annualized return is nearly a full percentage point higher, 10.99% compared to 10.28%, and the ETF offers a higher dividend yield, 1.85% versus 1.37% for the Vanguard mutual fund. A choice between these two particular funds likely comes down to a preference for either the more extensive mutual fund portfolio or the more concentrated ETF portfolio.