Amid the focus on artificial intelligence (AI), investors have again taken an interest in the chip industry. Since that technology requires the most advanced chips to run many applications, stocks such as Nvidia and Taiwan Semiconductor Manufacturing (TSMC) have attracted significant attention.
Despite their popularity, many prefer the safety of tech ETFs to individual stocks. The semiconductor industry is notoriously cyclical, and experienced investors know that any bull market will eventually give way to a downturn, much like the one experienced in 2022.
Fortunately, both the VanEck Semiconductor ETF (SMH +1.53%) and the iShares Semiconductor ETF (SOXX +2.10%) offer the diversification that can mitigate these risks. However, one of these exchange-traded funds is likely to yield higher returns.
NASDAQ: SMH
Key Data Points
Comparing the ETFs and components
Admittedly, one can easily assume that the two ETFs do not significantly differ from one another. For one, both offer investors an ETF expense ratio of 0.35%. In 2022, Morningstar reported the weighted average expense ratio was 0.37%. This means both funds closely reflect the average and, thus, are likely not a factor in one's choice.
Moreover, both have made Nvidia their top holding. This is not surprising since Nvidia has claimed a minimum market share of 80% of the AI chip market, according to most estimates.
Still, with VanEck owning 25 stocks and iShares choosing 30 stocks, both offer significant diversification.
NASDAQ: SOXX
Key Data Points
Differentiating factors
One key difference in the funds is VanEck's relative preference for semiconductor stocks involved with manufacturing. TSMC, which controls 61% of third-party manufacturing according to TrendForce, is the second-largest holding in the VanEck fund, while iShares makes it the 11th-largest holding.
This heavier allocation extends to TSMC's equipment provider for its most advanced manufacturing, ASML. ASML, the primary maker of extreme ultraviolet lithography (EUV) machines, is VanEck's fourth-largest holding. In contrast, the iShares index makes it the 16th-largest holding.
Interestingly, that difference is not as stark when measured by asset allocation. Despite the differences in how the funds rank ASML, iShares' 4% allocation of ASML is only slightly smaller than VanEck's 5% position in that stock.
Still, one cannot dispute that the VanEck fund has shown an increased willingness to take aggressive positions. It allocated 20% of the fund's holdings to Nvidia and just under 13% to TSMC. In contrast, iShares has no position above 10%, with Nvidia comprising under 9% of the fund and Broadcom around 8%.
Such a move has resulted in higher returns for VanEck's semiconductor fund. That applies for shorter time horizons and when measured over five-year or 10-year periods.
| ETF | 1 Year | 5 Years | 10 Years |
|---|---|---|---|
| VanEck | 72% | 35% | 27% |
| iShares | 54% | 30% | 25% |
Data sources: VanEck, iShares.
Which ETF better serves investors?
Although both should deliver market-beating returns, most investors should probably choose the VanEck fund. Admittedly, some investors might feel uncomfortable with VanEck's aggressive positions in Nvidia and TSMC. If prospective shareholders find that unacceptable, they will probably beat the S&P 500 in the iShares fund.
Nonetheless, the VanEck fund offers a high degree of diversification. Also, Nvidia's AI chip dominance and TSMC's large and advanced manufacturing base make sustained drops in either stock unlikely. Considering its past performance and consistent track record of higher returns, the VanEck fund is more likely to better serve semiconductor investors.
