How ETF weightings can affect your returns

Article Excerpt

On the surface, ETFs that invest in the same universe of stocks may be expected to deliver a similar performance. However, ETF managers use different methods to construct their portfolios—and this can lead to vastly different performance outcomes. Market cap weighted ETFs Most ETFs follow pre-defined indexes. These indexes are constructed using a variety of methods, of which the most popular is the market capitalization-weighted method (“cap-weighted”). The S&P 500 index and the S&P/TSX 60 index use this method. With the S&P 500, for example, the 500 largest U.S. companies by market value are included in the index. Individual stocks are weighted based on their market value. The largest holdings in this index currently include Microsoft, Apple, Amazon, Facebook and Alphabet, which now make up more than 20% of the total index. The main concern with this type of index construction is that individual holdings, or groups of holdings, can become large and dominant. A good example is the case of Nortel, which…

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