The ETF industry continues to evolve before our eyes, with a new line of nine sector ETFs from Rydex debuting Tuesday. Instead of weighting by market cap, like the first generation of sector ETFs, or by a fundamental measure like dividend yield, the Rydex funds weight stocks equally.The practical effect is that the biggest stocks by market cap will have less of an influence on returns. The mega caps usually don't provide leadership until the end of the stock market cycle, so it makes sense to have a tilt towards smaller companies most of the time. Equal weighting of the funds brings the average market cap down considerably. The average market cap for the Industrial Select Sector SPDR ( XLI) is $99.78 billion, but only $25.84 billion for the similar Rydex S&P Equal Weight Industrials ( RGI). Rydex first did this with an S&P 500 fund, the Rydex S&P Equal Weight Index Fund ( RSP). In addition to the industrial fund, it has now brought to market:
General Electric ( GE) weighs in at 19.77% of the Industrial Sector SPDR, 19.67% of the iShares DJ Industrial Index Fund ( IYJ) but only 1.91% of the equal weight industrial fund. As with the others, GE has been a laggard, trailing the Industrial Select Sector SPDR by 8% year to date. The funds will have a 0.50% expense ratio and rebalance once a quarter. Prices move every day so the funds will be out of balance most of the time, but they will never be anywhere as lopsided as the cap-weighted funds. The thing here is not whether Procter and Gamble is 2.4% or 2.8% of the Equal Weight Staples Fund, but that it is not and never will be 17% of the fund. These funds may be less than ideal now if you think we are close to the start of the next bear market. When the next downturn comes, it's likely that the equal weight funds will lag the cap-weighted funds. This does not make equal weighting a bad idea -- no product is likely to lead for the entire duration of a stock market cycle.