In market rally back to record, best S&P 500 tech trade hasn't been 'Mag 7' or tech sector itself
At the first half's closing low on April 8, the S&P 500 was down 15% year-to-date. At its closing high last Friday, the index was up 5% YTD. Over the past month through last Friday, tech was up 8.67%, leading the S&P 500. Over the past quarter, tech was up 22.30%, its best quarterly performance since the second quarter of 2020's Covid boom.
But one sector that has a healthy tech-bent has done even better than the tech sector itself: the Communication Services sector of the S&P 500. Last week, it was up over 6%, leading all sectors, and year-to-date, it has turned in better performance than tech.
The Communication Services Select Sector SPDR Fund (XLC) is up over 11% year-to-date, while Technology Select Sector SPDR Fund (XLK) is up a little under 9%.
What's led Communication Services to outperform the tech sector itself?
The "service"-based nature of the sector has enabled it not only to sustain but also to thrive in a volatile market, according to Matt Bartolini, State Street Head of SPDR Americas Research.
"When we look at it on a cross-asset momentum, it ranks one across all other sectors," said Bartolini, speaking on CNBC's "ETF Edge."
Another way to put it: "No one is cancelling Netflix," said Todd Sohn, Senior ETF & Technical Strategist at Strategas Asset Management.
A look under the hood of XLC is important to understand the relative outperformance.
Roughly 36% of XLC is in its top holdings: Meta, Netflix, and Alphabet. While Alphabet has been a notable laggard in tech this year, Meta, with a weight of 18.57% in the ETF, has been outperforming since April and is up by over 20% YTD. Netflix is hovering around its all-time high, and is up close to 50% this year.
That's more than covered for Alphabet's losses, even though it has the second highest weighting within XLC. And investors have been moving into the ETF this year, with roughly $1.6 billion in flows, about three times higher than XLK, which has seen near $500 million in inflows, according to ETFAction.com.
"XLC has been a strong performer, aided by its top holding, Meta, as well as other stocks," said Todd Rosenbluth, Head of Research at VettaFi. "Netflix has been a star this year," he added.
Betting less heavily on the top-heavy tech names in indexes and sectors has worked well here, too with Invesco's S&P 500 Equal Weight Communication Services ETF (RSPC), up close to 11% year-to-date.
For the pure-play tech sector bet offered by XLK, it is led by the likes of Microsoft, Nvidia, and Apple, with the latter a similar drag on performance in the tech sector as Alphabet has been to communication services.
"XLK has the Apple headwind. Semiconductors are on the rebound, but are coming off a significant correction too," Sohn said.
Apple is down by 18% this year, and it is the only "Magnificent 7" stock to recently trade below both its 50- and 200-day moving averages.
The Roundhill Magnificent 7 ETF (MAGS), which is an equally weight Mag 7 portfolio, is up only a little over 2% this year.
Overall, tech-focused ETFs are doing well, with the Invesco QQQ Trust (QQQ), up close to 17% over the past quarter, and roughly 8% this year. And Vanguard's Information Technology ETF (VGT) has seen sizable flows, at close to $3.5 billion YTD, but its 6% year-to-date gain is well behind XLC, almost half the level.
But there are additional examples from the market showing that the communication services bet has been the better way to leverage some top names associated with tech-led rallies, especially in a year when international stocks have beaten the U.S. market. A communication services ETF with a higher exposure to foreign stocks, the iShares' Global Communication Services ETF (IXP), is up over 15% this year, beating XLC by a notable margin.
"It's due to their exposure to non U.S. stocks," Rosenbluth said. "International stocks have been stronger performers and provide diversification benefits," he added.
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