The BMO Nasdaq-100 Equity ETF Fund – Exposure to Growth & Innovation in a Core Equity Solution

Can you provide readers with an overview of the Nasdaq-100 Index, and explain what makes it different from other U.S. equity indices?

MM: We think of the Nasdaq-100 index as a benchmark for U.S. large cap growth, but we also think of it as a benchmark to measure the new economy in the 21^st century as growth in U.S. equities is transitioning from the large industrials of the 20^th century to growing internet and tech companies that are the leaders of the economic future. Many names within the Nasdaq-100 have become global leaders in the tech sector and are responsible for so much of the innovation that is happening and pushing technological progress forward. The Nasdaq-100 tracks these innovative companies more intensely than any other broad market U.S. large cap equity index, so really giving exposure to innovation as a theme. More recently, companies such as Apple, Amazon, Google, Microsoft and Facebook have replaced many of the industrial giants to become the leaders of the new technologically-driven industries of this century.

Therefore, a lot of the growth the Nasdaq-100 has seen over the last decade comes down to its sector exposure. Because it is overweight to new economy companies, the index has become overweight to the Information Technology sector (IT). It is about 50%-60% exposed to IT which is about double the IT exposure in the S&P 500. Then the Consumer and Health Care sectors round out the index. These are the sectors which have really led in terms of revenue growth over the last decade. The Nasdaq-100 is an ex-Financials index, which for Canadian investors leads to a lower correlation to the broad Canadian market, and provides exposures to sectors which are underweight in Canada.

I hear a lot about “investing in innovation.” How exposed is the Nasdaq-100 to innovative, thematic companies?

MM: Quantifying innovation is a point we love to dive deep into on the Nasdaq-100. Innovation is kind of a buzz word these days but we take it seriously. We approach this from an analytic basis and make the case that this is truly an innovation driven index. If you’re looking for a pure exposure to innovation as a theme, this is a fantastic way to get that type of exposure. One way we can quantify innovation is looking at financial statements to see companies’ reported research and development (R&D) expenses. We know that investment in R&D is a key driver of innovation and economic growth. Companies in the Nasdaq-100 spend nearly twice as much in R&D on average compared to companies in the S&P 500. Another way we can measure and predict innovation is looking at patent values and the growth of intangible assets a company may have. Nasdaq-100 companies now represent over 10% of the global aggregate patent value across the 20,000 companies that we analyzed. We have also identified 35 key areas of disruptive technology (for example artificial intelligence, big data, deep learning, cyber security); high growth areas of the market that investors are trying to get exposure to, and when we looked at the Nasdaq-100, 58 companies (representing over 80% of the index) recently filed (within the last 12 months) at least one patent in one of the 35 key areas of disruptive tech. When you think more broadly about different areas of disruptive technology as themes, many of the companies in the Nasdaq-100 also appear in other thematic indices related to disruptive innovations. So, we have a lot of data to support that the Nasdaq-100 is truly a pure play exposure to innovation.

Because it is a high growth, innovation focused index, does this mean the Nasdaq-100 also comes with more volatility than other large cap U.S. equity solutions?

MM: I think that given what happened in the late 90s and early 2000s, high-growth innovative tech companies got a bad reputation for being a risky place to invest. But if you look at the volatility of the Nasdaq-100 Index (volatility being the purest measure of risk) compared to the S&P 500 over the last 15 years, the volatility of both indices has been very close. And actually, last year during the height of the market crisis, the Nasdaq-100 had less of a drawdown than both the S&P 500 and the Dow Jones Industrial Average during the bear market in March and April of 2020. Throughout 2020, it actually had similar overall volatility, consistent with a multi-year trend. So, it is interesting to see how things have shifted and now large cap tech companies are being viewed as a safer and more defensive place to be, given how strong their earnings and revenues are, and how well capitalized many of them have become.

We have seen how COVID has really accelerated the leadership of these companies in their respective industries, and their ability to continue to put up extraordinary growth rates. These companies have really demonstrated that they are not only fundamentally strong when times are good, but when there is a crisis they actually have also been very stable companies in this environment as well.

OK, Nasdaq-100 did well during the pandemic. But how has it performed over the long term?

MM: Over the last decade, all the “old economy” sectors—such as oil and gas utilities, materials—have been lagging, if not outright shrinking. Those are the sectors that you will not be exposed to with the Nasdaq-100.

In terms of performance, when you look at the compound annual growth rates since 2003, Nasdaq-100 companies have seen about 20% year-over-year average growth in earnings. That’s impressive, and means that the index’s 100 companies, on average, have delivered annual 20% earnings growth, along with 12% revenue growth, and 25% growth in dividends.

Last year, the Nasdaq-100 was the only broad-based index globally that registered positive earnings-per-share growth year-over-year, growing 4.5%. By comparison, the S&P 500 was -18.4% in 2020.