XLG - USMC: Active Large Caps That Perform Like Passive

2023-12-18 15:45:53 ET

Summary

• Principal U.S. Mega-Cap ETF is an actively managed fund that primarily invests in U.S. mega-cap companies.
• The USMC ETF's active, rules-based framework provides durability and stability during market volatility.
• The fund's heavy concentration in the technology sector could pose a risk if the sector underperforms.

Let's say you disagree with me that large caps will continue to outperform mid and small caps next year, but are looking for a different way to play it. The Principal U.S. Mega-Cap ETF ( USMC ) might be the fund for you. USMC is an actively managed exchange-traded fund that primarily invests in U.S. mega-cap companies, which are identified as those within the top 50th percentile of the S&P 500 Index (SP500). These companies typically boast durable balance sheets, high liquidity, and strong brands, making them a powerful source of return. The fund's main goal is to seek long-term capital growth.

What sets the USMC ETF apart is its active, rules-based framework. This structured approach ensures a consistent investment strategy, providing an element of durability and stability during market volatility. Furthermore, the ETF's low expense ratio of 0.12% makes it a cost-effective option for exposure to high-quality mega-cap companies.

Holdings: A Closer Look

USMC holds a portfolio of 42 companies, with a net asset value of $1.4 billion. The top 10 holdings of the fund, which constitute approximately 42% of the total assets, are largely concentrated in the information technology sector. Here's a breakdown of the top five holdings:

1. Apple Inc. ( AAPL ) : With a 7.37% weighting, Apple is the largest holding in the USMC portfolio. The tech giant's sturdy balance sheet and robust earnings growth potential make it a compelling investment.

2. Microsoft Corp. ( MSFT ) : Microsoft, the second-largest holding, constitutes 6.92% of the portfolio. Its steady revenue growth and dominance in the cloud services market contribute to its appeal.

3. Adobe Inc. ( ADBE ) : Third on the list is Adobe, with a weightage of 4.31%. Known for its creative and document management solutions, Adobe's consistent performance and strong cash flows make it a stable investment.

4. Costco Wholesale Corp. ( COST ) : Costco, accounting for 3.63% of the portfolio. Its membership-based business model and robust sales growth add to its investment allure.
   
5. Alphabet Inc. Class A ( GOOGL ) : Alphabet, the parent company of Google, takes the fifth spot with a 3.51% weightage. Its strong online advertising business and ventures into cloud computing and artificial intelligence underline its growth prospects.

No surprises here. Similar to the majority of other large-cap funds.

Sector Composition: A Balanced Approach

USMC's sector allocation skews heavily towards the technology sector, reflecting its emphasis on companies that are heavily reliant on information and communication technology. If you're negative on Technology as I am for next year, this is worth keeping in the back of your mind.

Peer Comparison: USMC Vs. Similar ETFs

To better understand the USMC's performance, it is useful to compare it against similar ETFs. Two such funds are the Invesco S&P 500® Top 50 ETF ( XLG ) and the iShares Core S&P 500 ETF ( IVV ).

XLG, like USMC, focuses on mega-cap companies, but its portfolio is more heavily concentrated in the technology sector. On the other hand, IVV provides broad exposure to the S&P 500 Index, making it more diversified across sectors.

Pros and Cons of Investing in the USMC

Investing in USMC comes with its own set of advantages and disadvantages. On the upside, the fund offers exposure to high-quality mega-cap companies, which are often associated with stable returns and lower volatility. It also employs an active, rules-based framework, ensuring a consistent investment approach across different market cycles.

However, there are also potential drawbacks. Principal U.S. Mega-Cap ETF's heavy concentration in the technology sector could pose a risk if the sector underperforms. Additionally, the fund's holdings are inherently overpriced due to their mega-cap status, which could impact returns.

Conclusion: Should You Invest in the USMC ETF?

USMC, despite it being active and having less holdings than the S&P 500, is still largely an S&P 500 fund. There doesn't seem to be much here that really differentiates it against other competitors. Personally, this is an avoid for me. I would have liked to see more performance dispersion, but active or not, it still performs like it's passive.

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