These Two ETFs Give You Unique Exposure to the S&P 500 and Nasdaq 100

Plus, can blockchain solve the dilemma of deepfakes?

Ric Edelman: It's Friday, September 6^th, and I want to talk with you about investing in the stock market. Now, this has been the subject of a lot of conversation lately because the stock market has been doing absolutely fabulous this year. And there is broad investor sentiment that there are high expectations that the stock market is going to continue to do even better.

You could suggest that there is a contrarian argument. The so-called investors climbing the wall of worry. There is no wall of worry right now. Investors are very bullish, and very optimistic. That's all kind of short-term stuff. I'm not terribly focused on what the stock market's going to do in the next couple of weeks or a couple of months, or how the election outcome is going to impact the market, blah, blah, blah.

I'm a long-term investor, as you know, and I'm more interested in what the market's going to do over the next decade or two, or half a century, than I am about the next six months. So, let's just talk fundamentally about how you invest in stocks. The typical approach that I espouse, that I think most financial advisors espouse, is broad-based diversification.

And there's nothing new to this. We've been espousing this for my entire career of 35 plus years. The focus is simple. Instead of trying to pick the winners, instead of trying to decide which stocks are going to do well, let's buy all of them, or the big bulk of them. 12 eggs and 12 baskets, so to speak.

So, let's diversify. This reduces our risk because if one particular stock collapses, goes broke, loses a lot of value...so what? It's only one out of many, as opposed to having all of your money in a single stock where a loss would be catastrophic. When we look at that, we take a broad look at the market, and you have basically two choices: Are you going to invest in big companies? Or are you going to invest in smaller companies? And the simplest, easiest proxies for figuring that out is choosing between the S&P 500 or the Nasdaq100.  The S&P 500 or the 500 largest stocks that are in the country are known as big cap meaning large market cap. These are companies that are worth an awful lot of money, companies like Apple and ExxonMobil.

And then you have the Nasdaq 100: these are the companies that are trading on the Nasdaq as opposed to the New York Stock Exchange. The Nasdaq Exchange generally, not always by any stretch, but generally houses smaller companies and the Nasdaq 100 is considered the biggest of the smaller companies. And these are often also technology companies.  Historically, tech stocks would choose to list themselves on the Nasdaq as opposed to the New York Stock Exchange. These are more considered small cap stocks, smaller companies there.

So, you can choose between big companies and small companies. And that means choosing between buying the S&P 500 stock index or the Nasdaq 100 stock index. What I want to do for you today, is give you a little bit of a spin on this idea. A little bit of a tweak on the popular and common notion of investing in a combination of big cap and small cap.

It's not a question of choosing between the two. It's a question of doing a bit of both right for diversification. But I want to give you a little bit of a tweak on that courtesy of two ETFs that are offered by Invesco. Invesco as you know, is one of the sponsors of this podcast. And they offer two ETFs that I think are really worth you paying some attention to.

The first is the Invesco S&P 500 quality ETF. The symbol of this is SPHQ. The link to it is in your show notes.  This is an interesting ETF because it does something a little bit different that actually has a profound difference. The little bit of a difference is that it's an S&P 500 index fund, but it doesn't simply buy the 500 stocks of the S&P. It doesn't merely replicate the S&P 500, which is what dozens and dozens of index funds do.  What it does instead is that it filters those 500 stocks to create a quality score for each one of them. And it produces this quality score based on three measurements: return on equity, accruals ratio and financial leverage ratio.

Well, what on earth are all those three things and why should you care? And let me give you a very quick, very brief description of each of the three. 

First, Return On Equity is a measurement of a company's financial performance based on its net assets. You simply divide net assets by shareholders equity.  Shareholders equity is the company's assets minus the debt. So, the return on equity lets you gauge a company's profitability and how efficiently it generates those profits. The higher, the better the return on equity, the ROE. The higher the ROE, the more efficient the company is at generating income and growth off of its financing.

And to know whether a company's ROE is good or bad, you just compare it to other companies’ ROE that are in the same industry. You need to compare a computer stock to a computer stock, an airline stock to an airline stock. A tech stock to a tech stock, You really can't compare an automotive company's ROE to a retail store company's ROE, because they all get different measurements, different metrics. You simply need to make apples-to-apples comparisons. It's a really easy, quick measure to help you determine if a company is good at generating income and growth off of its financing.

Second is the Accrual Ratio. This lets you know if a company has a lot of non-cash earnings. You take the company's net income, you subtract the free cashflow, and then you divide it by its total assets. This formula has been around for almost 30 years. Wall Street uses it routinely. The research tells us that companies with small accruals vastly outperformed companies with big accruals. So, it's another easy way to gauge “how good is this company operating.”  

The third is the Financial Leverage Ratio. It measures a company's debt in relation to its other financial metrics, like its capital structure and solvency and how it finances its operations.  You get the financial ratio by dividing the company's total assets by its total equity. A lower ratio means less debt and less risk. A higher ratio means more debt and more risk. So, when you're looking at the S&P 500, the list of 500 stocks, it ignores all three of those because the S&P 500 is merely a list of the biggest companies ranked by size.

But the Invesco S&P 500 Quality ETF (SPHQ) filters those 500 companies based on their scores on Return On Equity, Accrual Ratio, and Financial Leverage Ratio. And it only invests in the 500 companies that score well. And as a result, it doesn't own all 500 of the S&P 500 Index. It only owns about 100 of them.

The other 400 don't pass the test. So that's a pretty interesting filter result. And how has that translated in terms of investment performance? Well, as of the end of July, Morningstar had given this fund five stars for the past three, five and ten-year periods. I mean, it has really trounced the S&P year-to-date.

The S&P 500 is up about 17%. As of the end of July, this fund's over 20% in return for the past one year. It's up over 25% versus 22% for the S&P itself. It's up 11% over three years compared to 9.6% for the S&P. And it is up 16.1% per year over the past five years compared to just 15% for the S&P 500 index itself.

So, it's clearly demonstrated that this filtering results in you owning the stocks that outperform the index itself. Now, of course this is past performance data. We know that past performance doesn't guarantee the future, and any assertion of the country is a federal offense, but still, I find it noteworthy.

And that's why I mention it. And again, the fund is called the INVESCO S&P 500 Quality ETF. The symbol is SPHQ.  Again, the link is in the show notes.

The other ETF that I want to mention is Invesco's QQQM.  This is the Invesco Nasdaq 100 ETF. Now this does reflect the 100 biggest companies that are listed on Nasdaq, excluding the banks because banks are a whole ‘nother beast.  Their financial performance and operations are entirely different. So, the Nasdaq 100 excludes the banks and financial performance stocks. And what you're left with are the 100 companies on the Nasdaq other than those. So this is just, I'll put it in quotes, “just the Nasdaq 100” and the Invesco QQQ has been around for decades.

Invesco created QQQ back in 1999. It's now one of the five largest ETFs and one of the best performing for the simple reason that these small tech companies have largely outperformed the overall market. You know, we all know this about Apple and Amazon, and the list goes on and on and on.

So, QQQ was invented way back when the pricing structure for ETFs was different. Frankly higher. So that fund has been around since 1999. In 2020. Invesco created a cousin to QQQ called QQQM. The difference between the two: the fee. That's the only difference between the two.

QQQ is pretty darn cheap. It's 20 basis points. Two tenths of 1% is the annual fee. That's really quite low. QQQM is even cheaper. It's 25% cheaper. It's only 15 basis points. So, rather than owning QQQ, which itself is a pretty darn good and a common investment for people to own, you can save yourself 25% of the fee by investing instead in QQQM. It's really that simple.

The link to it is also in your show notes. You can learn about both of them along with everything else about Invesco at Invesco.com. So, if you're looking to own a diversified spread of the market, simply, easily, quickly, without any complication, you do a combination of the S&P 500 and the Invesco 100 and the Nasdaq 100.  And Invesco offers you two pretty easy and clever ways to do it. SPHQ and QQQM.

Hey, I got a question from Alan in Irvine, California.

“I was listening to how Elon Musk used AI to spoof a speech by Kamala Harris. It got me thinking about how it’s hard to decipher between what’s real and what isn’t anymore. And it got me thinking, how would blockchain technology help with this? Verifying the authenticity of what we see nowadays seems like it’s going to be a new problem that needs to be solved.”

Ric Edelman: Alan, I really think you're on to something. And this is why so many people in the tech community are looking at the merger of blockchain and AI for exactly the reason that you are citing. There are actually two reasons for this.

1) Both of these are technologically data centers.  Blockchain technology uses mining.  You've heard of Bitcoin mining.  And AI uses data centers. These data centers demand a lot of energy. Bitcoin energy doesn't have to be on 24/7 because mining is an optional exercise. It can be turned on and turned off without anybody really knowing or caring.  AI data centers, however, must be on 24/7. You need access to your cloud services all the time. Don't you? So, we can merge these two together technologically, where one can support the other from a power perspective.

Also bitcoin mining is often engaging with energy sources that are otherwise wasted, those energy sources can be diverted to the benefit of AI energy production. So that's one area where blockchain and AI are merging together.

2) The second is in data verification, which is the focus of your question. With data verification, it's becoming really scary due to all of the deep fakes that are available because AI can imitate voices and it can imitate faces, thanks to video technology, and it is really rather scary.

Well, one of blockchain technology's best attributes is authentication and verification. Once you put data on a blockchain; and that data can be text, the data can be audio, the data can be video; it becomes immutable. It becomes a permanent source of truth as to the validity of that data.  So, if you're worried that the video you're looking at isn't legit, if the creator of that video is legit... Donald Trump produces a campaign ad, and you want to know, did Donald Trump really do it? Did Kamala Harris really say that? If the Kamala Harris campaign posts it...if Donald Trump's campaign posts it onto a blockchain, it becomes a permanent source of truth that anybody with an internet connection can verify because blockchains are decentralized. They are public ledgers, so you don't have to wonder, is it legit? You can verify it yourself quickly, easily, and freely.

So yeah, I do believe that you're going to discover a greater new use of blockchain technology as a counter to the problem that we are beginning to experience as a result of the technological capabilities of AI.  Watch for more. It's going to get pretty exciting.

And as we enter the weekend, I want to remind you that coming out of the weekend, next Wednesday, September 11th, our webinar on the fed rate cuts. Jerome Schneider from PIMCO is going to be joining me and we're going to talk about this new interest rate environment, the first time in years rates are coming down as opposed to going up.

What does it mean for your investment opportunities? How much of your assets ought to be in bonds these days? New fixed income opportunities? How to adjust client portfolios? How much cash should you hold? We're going to cover all that and more. Your questions too. It's next Wednesday, September 11, 1:00pm EDT. Register right now. The link is in the show notes. Advisors, you get one CE credit. Have a great weekend. See you there.

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Link from today’s show:

Invesco QQQ ETF: https://www.invesco.com/qproduct-detailqq-etf/en/home.html

Invesco SPHQ ETF: https://www.invesco.com/us/financial-products/etfs/product-detail?audienceType=Investor&productId=ETF-SPHQ

Invesco QQQM ETF: https://www.invesco.com/us/en/etf/Nasdaq-100-qqqm.html

Rates are Poised to Drop, Now What? (9/11 Webinar – Register Now for Free!): https://www.thetayf.com/pages/rates-are-poised-to-drop-now-what

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Brought to you by:

Invesco QQQ: https://www.invesco.com/qqq-etf/en/home.html

State Street Global Advisors: https://www.ssga.com/us/en/intermediary/etfs/capabilities/spdr-core-equity-etfs/spy-sp-500/cornerstones

Schwab: https://www.schwab.com/

Disclosure page: https://www.thetayf.com/pages/sponsorship-disclosure-fee

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