The artificial intelligence boom has sent a handful of stocks skyrocketing, giving a big lift to many broad-based mutual funds and exchange-traded funds.
Investors looking for a more targeted way to capitalize on AI’s advances can own the individual stocks that are seen as the biggest beneficiaries of the technology. Names such as Nvidia NVDA and Microsoft MSFT have seen big rallies over the past year. Of course, that approach brings volatility and poses the challenge of picking individual winners at attractive prices.
Another avenue concerns thematic funds that are more tightly focused on AI stocks. While these ETFs could potentially benefit more directly from AI, they will be more volatile than a broadly diversified stock fund and will suffer poorer returns should the trend run out of steam. Of course, they also depend on the manager’s stock-picking skills.
Kenneth Lamont, senior research analyst at Morningstar, puts forward two cardinal rules for choosing a thematic ETF in AI. The first is to assess the robustness of the theme. In this case, he recognizes that “AI is one of the most defensible themes.” Another theme, the metaverse, which has witnessed the launch of more than 50 funds, currently appears to be a passing fad.
The second rule is thematic purity: Make sure the fortunes of the stocks that make up the ETF are as closely tied to AI as possible. Microsoft’s stock, while seen a big winner in AI, also has a substantial portion of its business in other areas, like the Windows operating system and countless software applications.
Lamont points to Morningstar Direct’s Consensus Purity Score as one way to assess how closely an ETF hews to a theme. The score measures the “economic linkage” between a stock, a theme, and management’s focus on the theme, calculating information such as corporate filings, revenue segments, and fund holdings.
Among US-listed ETFs, the top Consensus Purity score of 89.4 goes to the Robo Global Artificial Intelligence ETF THNQ. It’s followed by the TCW Global Artificial Intelligence Equity mutual fund TGFTX at 86.7, which in May was converted into an ETF and renamed the TCW Artificial Intelligence ETF. In third place, with a score of 85.6, is Global X’s US-listed Artificial Intelligence and Technology ETF AIQ.
A version of the Global X ETF was launched in Canada in May under the same name, but with the ticker AIGO. However, according to the Global X website, the Canadian version does not own individual stocks, but instead holds shares of the US ETF. Such “wrapped” ETFs can leave Canadian investors open to foreign withholding taxes.
The original Global X fund was launched in 2018, and over the last three years it’s posted an average annual return of 5.1%, ranking it in the 40th percentile among US technology stock funds. It’s been in the middle of the pack so far in 2024 with a 12.4% return, and for the last 12 months with an 18.5% gain.
AIQ’s top holdings are a mixed bag when it comes to direct plays on AI: Nvidia with a 4.8% weight, Tencent at 3.6%, and Netflix at 3.5%.
While Robo Global Artificial Intelligence ETF scores highest as a pure AI play, the fund’s track record has been poor. It ranks in the 60th percentile of the US technology fund category for the last three years, and so far in 2024, it lands in the 64th percentile with a 6.8% gain.
In first position within the portfolio, the Robo fund lodges Samsara IOT, a security, telematics, and monitoring company whose applications are AI-intensive. Among the giants, only Microsoft makes it into the top 10 holdings, alongside lesser-known names like Cloudflare NET, ServiceNow NOW, and Rapid7 RPD. The fate of such companies is more closely linked to AI than Microsoft’s or Amazon’s.
