IGPT: Exposure To AI Thematic Investments (NYSEARCA:IGPT)

I got here throughout the Invesco AI and Subsequent Gen Software program ETF (NYSEARCA:IGPT) completely by chance. As a macro analyst, I preserve observe of various funding themes by way of the monitoring of ETFs. One notably ETF that I recurrently take a look at is IGPT’s predecessor, the Invesco Dynamic Software program ETF (“PSJ”).

PSJ was a broadly diversified ETF that was not dominated by Microsoft (MSFT), the 800 lb gorilla in software program, so it was a helpful gauge of sentiment in the direction of the {industry} (Determine 1).

Nonetheless, not too long ago, I seen that the PSJ was renamed into the Invesco AI and Subsequent Gen Software program ETF. This piqued my curiosity, since PSJ was a effectively established ETF relationship again to 2005.

Is the newly renamed IGPT ETF a great way to trace the ‘Synthetic Intelligence’ theme?

Fund Overview

The Invesco AI and Subsequent Gen Software program ETF, as its title counsel, goals to offer buyers publicity to “corporations with vital publicity to applied sciences or merchandise that contribute to future software program growth” themes like synthetic intelligence (“AI”) and robotics. Even the fund’s ticker, IGPT, is a play on the extremely fashionable Chat-GPT app from OpenAI.

IGPT tracks the STOXX World AC NexGen Software program Improvement Index (“NexGen Software program Index”). Not like rules-based market cap or sector indices, the NexGen Software program Index selects shares that the index supplier believes are related to the AI software program and robotics theme.

Trying by way of the index building methodology, the index supplier has decided that corporations inside the subsectors proven in Determine 2 are eligible for the NxGen Software program Index.

Shares inside the chosen subsectors are ranked in descending order by free-float market cap and the highest 100 corporations are chosen for the index. Particular person constituent weights are capped at 8% and the combination weight of shares with weights higher than 4.5% could not exceed 45%. Any extra weight is redistributed to the remaining constituents of the index.

The index composition is reviewed yearly in June and the index is rebalanced quarterly.

Portfolio Holdings

Determine 3 exhibits the highest 10 holdings of the IGPT ETF. The IGPT could be very concentrated, with the highest 10 holdings accounting for 61.0% of the fund.

It consists of the standard suspects which can be related to AI together with Nvidia (NVDA), AMD (AMD) and Alphabet (GOOGL). Nonetheless, the largest weight within the ETF is definitely Meta Platforms (META) at 8.5%. Fascinating, counter to the index building guidelines listed above, META’s weight exceeds 8%, and the combination weight of positions with weights higher than 4.5% is definitely 46.1%, so buyers ought to anticipate some redistribution of the index weights in December.

Returns

For the reason that change to the PSJ ETF’s underlying index was solely made as of August 25, 2023, the IGPT’s historic efficiency will not be consultant of the present index methodology (Determine 4).

As an alternative, readers could wish to take into account the efficiency of the Nexgen Software program Index as a information for potential efficiency of the IGPT ETF.

Determine 5 exhibits the historic efficiency of the Nexgen Software program Index. It has impressively delivered 1 yr returns of 46.1% to October 31, 2023. Nonetheless, longer-term returns have been extra modest, with 3 and 5 yr common annual returns of 8.0% and 15.2% respectively.

Portfolio Building Seems Positive, However Beware Of FOMO

Taking a look at IGPT’s portfolio, it seems to be applicable for the AI theme because it incorporates a number of main AI-related corporations corresponding to Nvidia, Alphabet, and Meta. Nonetheless, there are a number of issues that I’ve with IGPT.

First, having firsthand expertise designing ETFs, I can confidently say that many of those thematic ETF’s underlying indices are sometimes ‘backed into’ by the index supplier. In different phrases, the fund sponsor has a listing of shares it desires to incorporate, and the index supplier is tasked to provide you with choice guidelines that can ‘produce’ an index holding these shares. What these guidelines don’t do is look into the longer term at potential disruptors and new entrants.

For instance, OpenAI, one of many main pioneers of AI, is presently a personal firm. For apparent causes (i.e. personal firm doesn’t have public shares), OpenAI will not be included in IGPT. Nonetheless, it’s unclear if OpenAI had been to hunt an IPO and develop into public, would it not qualify for the IGPT given the subsector and market cap standards listed above.

Moreover, there are a lot of main AI companies/analysis facilities inside conventional corporations that aren’t included in IGPT corresponding to Tesla (TSLA) with its Tesla Bot and FSD driving software program; GM (GM) which owns Cruise, one of many main autonomous driving pioneers; and Hyundai (OTCPK:HYMTF) which owns Boston Dynamics, a number one robotics firm.

Actually, AI and robotics is such a broad theme that it’s laborious to slim it all the way down to merely 100 shares, since virtually all corporations are actively engaged on automation and software program to a point.

Lastly, by leaping on these thematic ETFs, buyers run the danger of chasing previous efficiency. Only recently, I got here throughout an article within the Monetary Instances discussing analysis from Morningstar that counsel common buyers in thematic funds “miss out on greater than two-thirds of their potential whole returns over the previous 5 years attributable to shopping for excessive and promoting low”.

On common, thematic funds returned 7.3% annualized to June 30, 2023, however the typical investor solely acquired 2.4% per yr, as many purchased in after the majority of the returns have been made (Determine 6).

For instance, whereas the NexGen Software program Index has very spectacular 1 yr returns of 46.1%, the index returns have been a lot much less spectacular in current months because the market digest the big rallies within the AI-related shares from earlier within the yr (Determine 7).

Conclusion

The Invesco AI and Subsequent Gen Software program ETF was not too long ago renamed and refocused on the ultra-hot AI theme. Taking a look at IGPT’s portfolio, it seems appropriately constructed to incorporate lots of the main AI-rated shares like NVDA and GOOGL. Traders who wish to observe or acquire publicity to the AI theme can take into account the IGPT ETF.

Nonetheless, buyers are cautioned that IGPT’s index building methodology could miss AI developments in lots of conventional corporations like GM and Tesla. Moreover, by chasing thematic investments, buyers could also be prone to shopping for excessive and promoting low.

I price the IGPT ETF a maintain.