This column was originally published on RealMoney on Sept. 20 at 2:11 p.m. EST. It's being republished as a bonus for TheStreet.com readers.
It could be argued that it makes no sense to take on single-stock risk if the stock in question can't beat its sector index. A case in point would be the technology sector.
In the last three years, investors have not been rewarded for the extra risk taken by owning individual large-cap tech stocks, particularly the largest.
All parts of the market have their day in the sun; for mega-caps, that day was during the late 1990s. Since then, small-cap has outperformed large-cap. There is some market history behind this idea: large-cap typically outperforms as a bull market matures. Admittedly, the last few years have been unusual as small-cap has led, yet we still may have a bear market sooner, rather than later, as the current cyclical bull is long by historical standards. At some point in the future, mega-caps will provide leadership and it will make sense for the average cap size of a diversified portfolio to be larger than the average of the S&P 500, which is $90 billion. So at some point taking single-stock risk in this part of the market will be rewarded, but I do not see any immediate visibility for this now. If this line of thinking makes sense to you, one of the tech sector ETFs would make a good proxy for the group. Again, the idea here is that if stock selection in the bigger caps will likely result in returns that only match the sector, the potential reward does not justify the risk taken.
|The Big Names in Tech vs. the Sector
Over the past three years, Microsoft, Intel, Cisco and Dell have trailed their sector, as represented here by ETF IYW.
This strategy lends itself well to areas of the market that don't usually pay high dividends, like technology or small-caps. If a stock provides sector-matching price appreciation with triple the dividend of a sector fund, owning the stock may make more sense. Most tech stocks have very little or no dividends, so the focus becomes mostly about expected price appreciation in a stock vs. the rest of the sector. In blending together the tech portion of a portfolio, it makes sense to have exposure to different cap sizes and different parts of the sector. For example, eBay (EBAY) would not necessarily correlate that closely to F5 Networks (FFIV), but they are both tech stocks.
|F5 Networks and eBay|
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