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How Will Technology ETFs Perform As Q1 Unfolds?

The Q1 earnings season has kicked in for the technology sector, with weak earnings reports from International Business Machines (IBM) and Netflix (NFLX) triggering a sell-off in both stocks yesterday. IBM plunged 5.6% on the day after posting the worst quarterly revenues in 14 years while Netflix tumbled nearly 13% following a weak subscriber outlook (read: Netflix Drops on Weak User Outlook: ETFs to Watch).
 
This has eroded investors’ confidence in the broad sector pushing the tech heavy Nasdaq Composite Index down 0.4%. In fact, tech ETFs saw rough trading and the four largest and popular funds – Select Sector SPDR Technology ETF (XLK), Vanguard Information Technology ETF (VGT), iShares Dow Jones US Technology ETF (IYW) and MSCI Information Technology Index ETF (FTEC) – shed 0.6% each. Though Netflix does not make for any of these ETFs holdings, IBM has substantial exposure that resulted in a drop in them.
 
Investors should note that these funds have the largest allocations to the four tech giants – Apple (AAPL), Microsoft (MSFT), Alphabet (GOOGL) and Facebook (FB) – that dominate the fund’s portfolio. IYW has the largest concentration in these firms with a combined share of 43.3%, followed by 39.5% for VGT, 35.9% for XLK and 34.3% for FTEC.
 
Let’s delve into the earnings picture of these companies that would drive the performance of the above-mentioned funds in the coming days (see: all the Technology ETFs here):

Inside Our Surprise Prediction

Apple is slated to release earnings after the market closes on April 25. The stock has seen negative earnings estimate revision of 23 cents over the past 90 days for the yet-to-be-reported quarter. It has a Zacks Rank #3 (Hold) and an Earnings ESP of -1.52%, indicating less chances of beating estimates this quarter. However, the iPhone maker delivered positive earnings surprises in the last four quarters, with an average beat of 3.67%. The stock has a superb Value and Growth Style Score of ‘A’ each.

Microsoft has a Zacks Rank #3 and an Earnings ESP of 0.00%, making surprise prediction difficult. It delivered positive earnings surprises in the last four quarters, with an average beat of 15.21%. However, the Zacks Consensus Estimate for first-quarter 2016 is 63 cents, down by 4 cents over the past three months. Further, the stock has an unfavorable Value and Growth Style Score of D each. The company is expected to report after the closing bell on April 21.

Alphabet has a Zacks Rank #3 and an Earnings ESP of +4.87%, indicating a reasonable chance of beating estimates this quarter. However, the earnings surprise track over the past four quarters is not good with a negative average surprise of 2.28%. Like its peers, Google also witnessed negative earnings estimate revision of a penny over the past 60 days for the yet-to-be-reported quarter. The stock has an unfavorable Value Style Score of D, though a Growth Style Score of B looks better. The company will report after the closing bell on April 21 (read: Tech Face Off: Alphabet Versus Apple ETFs).

Facebook is expected to release it earnings report on April 27 after the market closes. It has a Zacks Rank #2 (Buy) but an Earnings ESP of -2.27%, indicating lower probability of beating estimates this quarter. The company delivered positive earnings surprises in two of the last four quarters, with an average beat of 3.37% and saw positive earnings estimates revision of 5 cents over the past three months for the to-be-reported quarter. Further, the stock has a top Growth and Momentum Style Score of A each.

Summing Up

Given the above discussion, it seems that a global slowdown and a strong dollar might have taken a toll on the profitability of these tech primes. Overall, the tech sector is expected to post an earnings decline of 6.7% in the first quarter compared to 1.3% drop in fourth-quarter 2015 (read: Time to Invest in Tech ETFs?).
 
Though the negative earnings growth outlook has hit the sector ETFs, surprises might be in the cards given the most conservative estimates. This is especially true as some hopes of earnings surprises have been building up lately. As per the Zacks Earnings Trend report, the S&P 500 tech companies that have reported so far have come up with 100% earnings beat ratio though earnings growth is down 30.3% at this stage.
 
If the trend of earnings beat continues, the funds will actually get a boost in the coming days. In particular, XLK and IYW have a Zacks ETF Rank of 1 (Strong Buy) while VGT has a Zacks ETF Rank of 2. Meanwhile, FTEC has a Zacks ETF Rank of 3.
 
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SPDR-TECH SELS (XLK): ETF Research Reports
 
ISHARS-US TECH (IYW): ETF Research Reports
 
VIPERS-INFO TEC (VGT): ETF Research Reports
 
FID-INFOTEC (FTEC): ETF Research Reports
 
APPLE INC (AAPL): Free Stock Analysis Report
 
MICROSOFT CORP (MSFT): Free Stock Analysis Report
 
ALPHABET INC-A (GOOGL): Free Stock Analysis Report
 
FACEBOOK INC-A (FB): Free Stock Analysis Report
 
NETFLIX INC (NFLX): Free Stock Analysis Report
 
INTL BUS MACH (IBM): Free Stock Analysis Report
 
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