Should You Invest in the Only IoT ETF?
It’s hard to figure out who the leaders are in the Internet of Things (IoT) because the term can encompass so many different things. Broadly speaking, IoT imagines a world where everything is connected to the cloud. All the data being generated allows us to create “digital twins” and optimize them. Consequently, areas we may want to invest in include:
- Providers of IoT sensors and chips at the edge
- Providers of the hardware used to transmit and store the resulting data
- Firms that analyze the data and provide insights such as predictive analytics
When evaluating any disruptive tech theme for investability, the first thing we do is look for ETFs. There’s only one pure-play IoT ETF out there – The Global X Internet of Things ETF (SNSR).
The Global X IoT ETF
In our last piece on The Global X IoT ETF, we looked at things like the top-10 constituents, historical performance, and assets under management (AUM). Several years later, SNSR has more than doubled their AUM from $106 to $253 million. That’s a small number compared to the other two Global X ETFs we’re presently invested in – the Global X Fintech ETF ($775 million in AUM) and the Global X Robotics & Artificial Intelligence ETF ($1.9 billion in AUM). We care about AUM because it’s a vote of confidence from institutional investors. As they say, follow the money. Still, that won’t dissuade us from investing in the ETF if we believe it gives us pure-play exposure to the IoT theme.
The Global X IoT ETF is based on an index called the “INDXX Global Internet of Things Thematic Index.” By looking at the underlying index methodology, we can easily figure out how stocks were selected for inclusion. In this case, the index provider includes stocks that are receiving more than 50% of their revenues from the below four sub-themes.
Those are called “pure-plays,” and they will be prioritized first. If there are less than 100 pure-plays, they will then add “quasi-plays,” companies that generate at least 10% (but less than 50%) of their revenue from the above sub-themes. We have no way of telling how many pure-plays there are within this index, but some of the selections are puzzling.
With Cisco (CSCO) and Qualcomm (QCOM) both having market caps that exceed $140 billion, it’s hard to measure what percentage of revenues can be attributed to the IoT theme. From Cisco’s 2020 Annual Report:
We have introduced several innovations that extend our intent-based networking capabilities to wireless and enterprise routing products, including SD-WAN and Internet of Things (IoT) edge platforms.
You could argue that the communications equipment Cisco builds will transport all the extra data generated by IoT devices, so it’s a pick-and-shovel play on IoT, but we have no visibility into those revenues. That’s why we only invest in pure-play stocks or companies that segment their revenues so we can easily measure one of the most important metrics for disruptive tech stocks – revenue growth.
One company that sucks at providing transparency into revenue growth is IBM (IBM), which the ETF also includes. We’ve looked at IBM’s work in blockchain, medical imaging, hybrid cloud computing, and artificial intelligence, but IoT?
Emerson Electric (EMR) is a great dividend champion, but they’re not an IoT stock, and neither is their European counterpart Schneider Electric (SU:FP). The same holds true for conglomerate Honeywell (HON).
As for Ambarella (AMBA), they’re calling themselves an AI company so we consider them as such. Dexcom (DXCM) is a stock we like, but they’re a play on diabetes, so we classify them under life sciences. Smartphone maker Xiaomi (1810:HK) also appears to be out of place in an IoT ETF.
Collectively, the stocks we’ve discussed so far make up about 21.6% of the ETF’s weighting. When considering the remaining exposure, we need to take into account our current investments.
To Buy or Not to Buy
When considering whether or not to invest in any given stock or ETF, we need to understand how it compliments companies we’re already invested in. Last month we posed the question, Who is the World’s Leading IoT Chipmaker? The answer doesn’t matter if you’re ARM Holdings, a company that’s the leading provider of intellectual property to chipmakers and receives royalties on billions of IoT chips every year. Licensing IP is a great business to be in because it incurs very little operational risk.
When SoftBank bought ARM Holdings, they envisioned one trillion IoT chips talking to the cloud with one trillion subscriptions generating recurring revenues. Now, NVIDIA (NVDA) is planning to acquire ARM Holdings. If that deal goes through, we’ll also have IoT exposure by holding NVIDIA, that is if you believe what SoftBank’s fearless leader said three years ago.
Since the NVIDIA deal is still up in the air, we need to make a decision based on what we know today. Given NVIDIA is our largest holding exceeding 10% of our entire disruptive tech portfolio, we’re not particularly interested in more exposure to the semiconductor industry. Of the remaining stocks in the Global X IoT ETF, around 11 stocks are classified as “Semiconductors & Semiconductor Equipment” for a combined weighting of 27.5%.
If we combine the 21.6% of holdings that we don’t believe should be classified as IoT, along with the 27.5% semiconductor companies, that means nearly half of this ETF contains exposure we don’t want. At this point, it’s an easy decision to make.
If the ARM deal doesn’t go through, we might warm up to the semiconductor exposure we’d be getting with the Global X IoT ETF, but that doesn’t address the 21.6% weighting given to stocks we’re not convinced provide meaningful exposure to IoT. Even if they do, we’re not able to measure that exposure to see how it’s progressing. Our recent piece on Rockwell Automation, also included in the Global X IoT ETF, talks about why you want to measure IoT as its own revenue segment. While we’ll be avoiding the Global X IoT ETF as an investment, it did help us uncover some interesting pure-play IoT stocks we’ll be covering in future articles.
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