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You Need to Know What's in Your ETF

NEW YORK (TheStreet) -- Earlier this week I looked at Amazon.com's (AMZN) weighting in certain tech-related exchange-traded funds and its omission from others.

The Internet-themed ETFs such as First Trust DJ Internet Index Fund (FDN) own Amazon, while broad technology-sector funds such as the Technology Select Sector SPDR (XLK) do not.

This year FDN is up 39% compared to just 10% for XLK. XLK has also lagged far behind the S&P 500's 17% gain this year.

The difference between the two is likely less attributable to Amazon and its 22% gain this year so much as XLK's inclusion of Apple (AAPL), which makes up 14% of the fund and is down 9% this year.

In late 2006, ETF provider Rydex, which was subsequently acquired by Guggenheim, created a suite of funds that took the sectors of the S&P 500 and weighted the holdings equally. So while Apple has a 14% weighting in XLK, it has only a 1.6% weighting in the Guggenheim S&P 500 Equal Weight Technology ETF (RYT).

RYT is up 26% in 2013, more than double XLK's gain this year.

Over the years we have consistently discussed the importance of looking under the hood of any ETF to understand the makeup of the portfolio. An investor should have some understanding of an individual holding that takes up a disproportionately large position in a fund.

Apple has gone from an undeniable can't-miss stock to one with many questions now unanswered. The decision to avoid a company is much simpler than the decision to buy one. One does not need to be a Wall Street analyst to have realized that the story at Apple started to change a year ago and become more uncertain. Faced with this, an investor who invests at the sector level could have switched from XLK or any of the other broad, market cap-weighted tech ETFs into RYT.

This effect has happened with other sector funds in the past. General Electric (GE) is the largest holding in the Industrial Select Sector SPDR (XLI), with an 11% weighting. Going into the financial crisis, it had more than a 20% weighting in XLI vs. a sub-2% weighting in Guggenheim S&P 500 Equal Weight Industrials ETF (RGI).

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