How to Stay Engaged With Tech Without a Full Commitment

For investors embracing broad market exchange traded funds (ETFs), avoiding the technology sector can be difficult. The sector is the largest weight in a slew of widely observed equity benchmarks, including the Nasdaq-100 Index, where tech stocks represent nearly 46 percent of the index, more than double the second-largest sector allocation.

Tech is usually prized for growth and momentum traits, but with those positives come risks such as elevated sensitivity to trade headlines and higher volatility than some other sectors. In other words, there are times when investors will want to marry tech and other times when dating is the more applicable metaphor.

With third-quarter earnings season about to start, investors may want to consider scaling back tech exposure without ditching the sector altogether.

"Heading into the end of the third quarter, 113 S&P 500 companies have issued EPS guidance for the quarter,” according to FactSet Research. “Of these 113 companies, 82 have issued negative EPS guidance and 31 companies have issued positive EPS guidance. The number of companies issuing negative EPS for Q3 is well above the 5-year average of 74.”

Negative revisions, predictably, create negative headlines, but those downward forecasts also leave room for potential surprises. If those positive surprises arrive, the Invesco DWA Nasdaq Momentum ETF (DWAQ) would benefit. That fund is underweight tech stocks relative to the Nasdaq-100 with a weight of 31.35 percent to the sector.

DWAQ Perks

For investors that focus on price action, as many should, DWAQ is a sensible idea because its underlying index, the DWA Nasdaq Technical Leaders Index, is rooted in price.

Components are scored based on relative strength and that score “is based on intermediate and long-term price movements relative to a representative market benchmark and the other eligible securities,” according to Invesco.

Over the near-term, it's important to note that DWAQ's gifts are also its burdens. The fund devotes about 82 percent of its weight to growth stocks, a style that has recently been out of favor. Additionally, much of the fund's tech exposure is sourced through semiconductor and software stocks, industries that have been driving the broader tech sector's glum earnings guidance.

"In the Information Technology sector, 29 companies have issued negative EPS guidance for the third quarter, which is nearly 45% above the 5-year average for the sector of 20.1,” notes FactSet. "At the industry level, the Semiconductor & Semiconductor Equipment (9) and Software (7) industries have the highest number of companies issuing negative EPS guidance in the sector.”

While growth stocks have had some struggles of late, the style isn't excessively valued relative to value, as the chart below indicates.

Bottom Line: Growth's Worth It Here

While global growth may be slowing, such environments have tended to favor growth stocks and that sets up well for DWAQ. That thesis would be validated via one of two scenarios, though two would be preferable.

First, if the U.S. and China can hammer out trade terms, DWAQ's semiconductor names would likely rally. Second, if software companies can generate some earnings surprises and positive guidance, DWAQ's holdings from that industry would get a lift. Beyond those factors, there are other tailwinds for the growth style.

“The global economy is increasingly dominated by several secular trends: low but stable growth and inflation, the rise of the 'cap-light' business model, a secular shift in consumption away from goods and towards services, and unprecedented economies of scale for select technology platforms,” according to BlackRock. “All these trends favor growth stocks.”

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.