Theory of XT

Ric Edelman is a highly successful investment advisor.  He decided that there was not a simple way to invest in what he calls “Exponential Technologies,” so he made his own ETF, and funded it through his firm to the tune of $560M, which made it news.

I have a bunch of questions about whether or not this is a good idea, and looking at the fund fact sheet helps with some of those answers.

    • Isn’t this all in the “technology” sector?  No.  He is trying to include disruptive technologies in pretty much all sectors.  This includes biotech companies trying to re-invent treatment of diseases, solar and other energy companies trying to disrupt the fossil fuel – utility model, and other companies that he feels are actively working on a disruptive technology or model.
    • Looking for exponential growth of the technology, therefore the stock.  Why can’t you just buy a small cap fund and call it a day?  I think that he must have analysts diving deep into filings, looking at R&D as well as forward guidance talking points.  He’s got Airbus, T-Mobile, Netflix, and Amazon in his top 20 holdings.  These are not small caps, but he must feel they have some technological competitive advantage. BTW, this is a somewhat global fund, including emerging markets.  How many analysts are working on this?  That’s a big universe of stocks.  Pretty much all of them.


      How does one select these stocks?  And weight them?  This is a red flag for me.  Here’s how the index is described:  “The iShares Exponential Technologies ETF seeks to track the investment results of an index composed of developed and emerging market companies that create or use exponential technologies.”  That sounds like a mutual fund or stock picking theme, not a rules based index that you can replicate at home.  In an interview with, Edelman put it this way:


Morningstar thought it was a great idea and agreed to create the index, which contains, as you know, 200 securities, equally weighted, with a very robust indexing process that is Morningstar’s expertise.

  • Here’s the index page.  AHA!  It’s picked by committee.  You can’t replicate it at home.  The process reads like how you would select a capital project, or run a model UN meeting:
  • Step 1: Managers from Morningstar’s global Equity Research team identify technology themes with the potential to have significant economic benefits to producers and users. As of September 30, 2014, nine current themes have been identified:
    Big Data and Analytics

    Medicine and Neuroscience

    Networks and Computer Systems
    Energy and Environmental Systems
    3-D Printing
    Financial-Services Innovation
    Step 2: Morningstar’s Equity Research managers train analysts on the themes and scoring framework. The analysts then score the companies in Morningstar’s global coverage from 0-2 on each theme.
    No or little exposure: 0
    Moderate exposure: 1
    Significant exposure: 2
    Step 3: Managers in the Equity Research team calibrate scores across individual analysts, sectors, and themes. Managers review the scores of 2 across each theme and collectively select ”leaders” (whose scores are increased
    to 3 from 2). Leaders are defined as firms expected to have significantly more exposure than other firms that scored 2. Each theme may have between one and five leaders.
    Step 4: Exponential technology scores and theme leaders are reviewed annually by the Equity Research team before each reconstitution of the index.
  • Sheesh.  Oh, and the analysts are the entire Morningstar team.  So, I think this has a lot of baked in career risk.  Which is exactly the opposite of what you want in this kind of fund.  Since the fund is looking for only a specified list of breakthrough technologies, an actual brand-spanking-new breakthrough is, by definition, going to be excluded.  Are self-driving cars in there?  Maybe.  That list of 9 “themes” is a mess.  Some of them are specific technologies or uses of specific technologies (3D printing), and others are just areas where they think new technologies can best be applied.

Important note:  The entirety of the renewable energy business is split between Information Technology (inexplicably, as Semiconductors & Semiconductor Equipment,) and Utilities.  Energy sector in GICS is defined as and and exclusively comprised of fossil fuel businesses.  That’s why Energy is such a small (2.3%) part of the portfolio.

I understand why Mr. Edelman, and presumably everyone else, wants to own the companies that are coming up with breakthrough technologies and bringing them to market profitably.  However, I think just reading that last sentence reveals why that’s not as simple as buying an ETF of 199 hand picked companies from around the world.  Maybe some of these are going to break out and become the next Apple or Tesla (both of which, by the way, are in the fund).  But I suspect the fund will miss as many (or, being more optimistic, nearly as many) as it catches.  That’s why you buy the market, because you aren’t confident in your crystal ball gazing abilities.  Or that of your Morningstar committee.


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