2023-03-27 08:46:35 ET
Summary
- BUG invests in cybersecurity companies, mostly in the United States.
- This is one of the more nascent ETFs I have written about, with less than four years passed since its inception.
- Though BUG could well profit from technology and cybersecurity growth, this ETF’s future growth capabilities are harder to assess compared to older, more developed alternatives.
I rate Global X Funds - Global X Cybersecurity ETF (BUG) a hold. I believe this ETF could have a lot going for it and my bullish view on the cybersecurity industry stands. However, BUG doesn't even have four years of history to back up its case and is still competing amid peers with more potentially attractive metrics. I believe there currently isn't enough historical performance or other distinguishing properties I could use to give this ETF anything other than a hold.
I could see myself upgrading this ETF to a buy within the next year or so. In this time, the market could recover to the point where smaller, emerging securities with more risk/reward could come to light. Also by that point, we may have a better sense of just how well this ETF responds to economic downturn. Just because it might not be the prime choice now doesn't mean it can't get more relevant and attractive in the coming years, which is why I plan to watch BUG closely.
Many have turned to technology stocks after recent financial crises, which could increase profits within technology and possibly in cybersecurity. This combined with the increased relevance of hackers, particularly those from overseas , could shine light on cybersecurity ETFs. However, investors might gravitate toward more leading funds as opposed to smaller, less covered ones like BUG. Such leading funds may include the ETFMG Prime Cyber Security ETF (HACK), the iShares Cybersecurity and Tech ETF (IHAK), and the First Trust Nasdaq CEA Cybersecurity ETF (CIBR).
Strategy
BUG tracks the Indxx Cybersecurity NR USD Index and uses a full replication technique. With this method, investors may be better exposed to the cybersecurity industry as a whole rather than just the most prominent stocks. This ETF invests in both growth and value stocks of varying market capitalizations. However, holdings in BUG may be relatively growth-oriented, as its yield is somewhat low and cybersecurity is often associated with rapid growth.
Holdings Analysis
This ETF invests solely in technology companies. These companies are primarily involved in cybersecurity and information technology ((IT)). More specifically, these companies generally work to prevent cyberbreaches to networks, applications, computers, and other electronic devices. Holdings in BUG are mostly situated within the United States, with just over 15% located outside the country. The most represented Non-United States locations are Japan and Canada. Investors can remain confident that policy changes or other salient events outside the United States will likely not have a particularly meaningful impact on this ETF's performance.
BUG allocates 61% to the top 10 holdings in a fund of just 26 stocks, making this ETF somewhat top heavy. Investors may therefore want to consider any and all concentration risk, especially when following an industry as volatile as cybersecurity.
Strengths
This ETF may provide investors with quality exposure to the cybersecurity industry, which some are looking to profit from in the long term. This could be justified by the industry's strong growth forecasts and opportunities to profit from advancements in other technological fields like artificial intelligence and fintech.
Cybersecurity industry growth forecast 2029 (Fortune Business Insights )
In addition to the industry's growth capabilities, the number of data breaches has gone up in recent years and is also expected to increase in the medium to- long term.
Number of data compromises each year from 2005 to 2022 (Statista)
Furthermore, the reparations expenses following a data breach have recently gotten more severe and are projected to get more costly.
Average cost of a data breach in the United States from 2006 to 2022 (Statista)
Both of these factors alike could increase the demand for cybersecurity solutions and ultimately drive the profits of companies held in BUG.
When looking back to the moment of its inception, BUG appears to have outperformed its potential alternatives for the most part.
Based on this chart, BUG might have some underlying performative advantages that could manifest in the next 3-5 years as market conditions change.
Weaknesses
This ETF is somewhat volatile and displays greater price fluctuations and drawdowns than its peers dating back to 2019. Though the standard deviation is slightly below that of the broader market, BUG's annualized volatility is 67% greater. Because this ETF is quite new, we are yet to see the 5Y max drawdown.
Though BUG has generally outperformed its peers in the last 3 years, its dip in recent months may outline a limited ability to hedge market downturn. As I've mentioned in previous articles , an ETF's drawdown beginning around October 2022 can be seen as a cautionary note. This is because rate hikes became quite forceful during this period. In this regard, any securities' reaction to this event could reflect fundamental advantages and inflation-hedging strengths. Evidently, BUG does not display this like its peers.
A recession could very well occur in the coming year as the Fed continues their deflationary measures. In this event, BUG might have a difficult time keeping up with its peers, just based on how it has already responded to aggressive rate hikes. This could lead to many investors to choose more robust alternatives to stick with in the long term.
Opportunities
This ETF could profit from the increasing threat of foreign hackers, particularly those from China and Russia . For example, the FBI recently raised awareness against Russian hackers, putting cybersecurity funds on headlines. You can read more about this event here .
This looming threat could inspire corporations, particularly those governmental in nature, to adopt cybersecurity solutions. This could drive the profits of several companies held in BUG.
The cybersecurity industry could also profit in the long term from developments in artificial intelligence and fintech . Artificial intelligence and fintech both have strong growth forecasts and are likely to need cybersecurity protection as their role in society becomes increasingly important. Furthermore, artificial intelligence integrations into cybersecurity could contribute to enhancing quality and customer experience, making these systems more attractive despite their generally high costs.
Threats
The ongoing semiconductor race is escalating quickly and also worsening geopolitical tensions between the United States and China. Geopolitical tensions worsening could increase malintentions from overseas nations and possibly fuel incentives to commit cyberattacks and espionage against the United States. The semiconductor race was catalyzed in part by the semiconductor shortage , which remains a risk to several areas of technology, including cybersecurity. I recently addressed the semiconductor shortage in my piece on the SPDR NYSE Technology ETF (XNTK).
Cybersecurity may have some significant opportunities to grow in the coming years, however, it is still vulnerable to the effects of high inflation. Specifically, the more expensive cybersecurity becomes, the more likely it is to be considered a luxury for some companies rather than a necessity. This could stifle the demand and popularity of cybersecurity solutions.
Conclusions
ETF Quality Opinion
BUG possesses a high-quality portfolio that I believe could see significant growth in the long-term. However, the degree to which this ETF can effectively withstand macroeconomic headwinds and policy changes may require more investigation with time. For these reasons, I plan to follow BUG closely in the coming periods.
ETF Investment Opinion
I believe that more information is necessary to make an educated transaction decision on BUG. For this reason, I could not confidently rate it a buy or a sell, so the neutral option seemed appropriate. This ETF could well increase in price as the cybersecurity industry expands. However, the extent to which BUG can effectively capitalize on said expansion remains up for question. Recent underperformance also leads me to question how well this ETF is suited for a possible recession or other macroeconomic slowdowns that may occur as soon as later this year.
For further details see:
BUG: Strong Assets And Growth Forecasts With Even Stronger Uncertainty