So, if you’re worried about being overexposed to U.S. tech, what are your options? Should you even try to reduce that exposure, or does it make sense to just ride the trend? Well, various asset managers have considered these concerns and introduced some exchange-traded fund (ETF) options designed to mitigate concentration risk. Here’s a look at the arguments for and against tech-heavy investing, along with some ETF alternatives that provide a more balanced approach to U.S. equities.
How tech-heavy is the U.S. market?
The answer depends on which benchmark you use, but across the board, U.S. stock indexes are heavily overweight in tech.
Take the S&P 500 Index. At the end of 2024, technology made up 32.5% of the index. The Nasdaq-100 Index is even more concentrated with 59.5% weighted toward technology. Both the S&P 500 and Nasdaq-100 are market cap-weighted. This means the larger a company’s total market value (share price multiplied by available shares), the more weight it holds in the index. When tech stocks perform well, they climb higher in the rankings, gaining an even larger share of the index.
For Canadian investors, the consequence is clear: When you buy into funds tracking these indexes, most of your invested money is going into the biggest tech stocks.
By the end of 2024, the top 10 stocks in the Nasdaq-100 accounted for 50.4% of its total weight, and only one—Costco—wasn’t a tech company. The S&P 500 was slightly better at 37.3%, but again, only Berkshire Hathaway was a non-tech stock in the top 10.
Equal weight ETFs
There’s more than one way to structure an index within an ETF, and a popular alternative to market-cap weighted is equal weighted ETFs. The idea is simple.
Instead of weighting companies based on their market size, every stock in the index gets the same allocation in the ETF. In the case of the S&P 500, each company would receive a 0.2% weighting, regardless of whether it’s Apple or a much smaller firm.
For Canadians, there are a few equal-weight ETF options to consider, such as the Invesco S&P 500 Equal Weight Index ETF (EQL) and the Invesco NASDAQ 100 Equal Weight Index ETF (QQEQ). Both are also available in currency-hedged versions for those concerned about exchange rate fluctuations.
However, equal-weight ETFs have some trade-offs. One is cost. EQL has a 0.2% management expense ratio (MER), and QQEQ is 0.28%, compared to just 0.09% for market-cap weighted S&P 500 ETFs and 0.2% for Nasdaq-100 ETFs.
Another downside is historical underperformance. Over the last five years, EQL returned 13.42% annualized, while the iShares Core S&P 500 Index ETF (XUS) delivered 14.84%. The gap is even more pronounced for Nasdaq-100 exposure. QQEQ’s three-year annualized return was 12.12%, compared to 18.59% for the market-cap weighted Invesco NASDAQ 100 Index ETF (QQC).
A big reason for this is that equal-weight ETFs don’t let the winners run. In a market-cap weighted ETF, outperforming stocks naturally rise to the top, increasing their influence over time.
In an equal-weight ETF, these winners are systematically trimmed every quarter, while underperformers get bought back up to target weight. This reduces concentration risk, but also means the fund misses out on extended bull runs in dominant sectors like tech.
Capped index ETFs
Some indexes impose caps on single-company weights to prevent concentration risk. A well-known example in Canada is the S&P/TSX Capped Composite Index, which limits any single stock to 10%. This rule was implemented after Nortel ballooned to over a third of the S&P/TSX 60 in July 2000, exposing investors to extreme sector risk before the stock collapsed in 2009.
For Canadian investors seeking U.S. equity exposure without excessive tech concentration, there’s a similar option now: the iShares S&P 500 3% Capped Index ETF (XUSC). This fund tracks the S&P 500 3% Capped Index, which prevents any one company from exceeding a 3% weighting. If a stock surpasses this limit, the excess weight is trimmed and redistributed across the rest of the index during quarterly rebalances.
A quick look at XUSC’s sector breakdown as of February 12 shows a balanced allocation—just 22.8% in technology. Additionally, the top 10 holdings make up only 24.4% of the ETF.
However, this ETF investing strategy has its drawbacks. XUSC comes with a higher 0.12% management fee, which, while still low, is more expensive than the 0.09% MER of XUS, its market-cap weighted counterpart.