The Standard & Poor’s 500 index
SPX,
is by far the most important, most followed, and most owned stock market index in America — and the world.
It supposedly tracks the 500 biggest companies on the U.S. stock market. It is the standard benchmark for equities.
If you are invested in the stock market, especially through mutual funds or exchange-traded funds, your portfolio is almost certainly tracking the S&P 500, either directly or indirectly.
If so, do you think your investments are “diversified?” Think again.
The S&P 500 has become ridiculous. It has become so top-heavy that it is effectively just a bet on a handful of stocks. If you want to bet your retirement on the fortunes of a small number of companies, that’s your choice. But you should at least know you’re doing it. I suspect most people have no idea.
Apple
AAPL,
alone now accounts for nearly 8% of the S&P 500 by market value. That is more than the bottom 200 companies in the index.
Put another way, if you invest in a typical U.S. (large cap) mutual fund, you are betting more of your money on Apple alone than you are on such household names as Walgreens Boots Alliance
WBA,
Darden Restaurants
DRI,
(Olive Garden, Ruth’s Chris, LongHorn Steakhouse), Royal Caribbean Cruises
RCL,
and Carnival
CCL,
cruise operators, kitchen table staples Kellogg
K,
Campbell Soup
CPB,
and JM Smucker
SJM,
casino giants MGM International
MGM,
Las Vegas Sands
LVS,
Caesar’s Entertainment
CZR,
and Wynn Resorts
WYNN,
booze companies Molson Coors
TAP,
and Brown-Forman (Jack Daniel’s)
BF.B,
toys giant Hasbro (G.I. Joe, Monopoly, Peppa the Pig)
HAS,
airlines United
UAL,
American
AAL,
and Southwest
LUV,
plus around180 other U.S. companies…put together.
Apple may be a wonderful company. But for $2.8 trillion, if I had to choose, would I rather own one company or these 200?
It doesn’t end there. If you invest in the S&P 500 or an S&P 500 tracking fund you are investing 25%, or one quarter of your money, in just five companies: Apple, Microsoft
MSFT,
Amazon
AMZN,
NVIDIA
NVDA,
and “Alphabet” (nee Google)
GOOG,
That’s way more than the bottom 300 companies in the index (15%), and not too far short of the amount you are investing in the bottom 400, which comes to 29%.
Maybe this can be justified. Maybe these five companies really should be valued at more than 300 other companies in the S&P 500.
But how can this be called “diversified”? The U.S. index is now starting to look like some of those bizarre European stock markets, where a handful of national bluechips totally dominate the indexes. In the late 1990s, when I worked in London, I remember writing about how four or five stocks accounted for a quarter of the FTSE 100 index
UKX,
by market value, and how crazy it was. It is no coincidence that the FTSE 100 index has been a mediocre investment since then, even though a broad, truly diversified portfolio of British stocks would have made you bank. The overvalued mega caps dragged the overall index down.
The alternative to owning the S&P 500 doesn’t have to involve just owning small-company stocks, or foreign stocks, or no stocks at all.
One option is to hold midcaps instead. Another, probably better, is to go for an equal weight portfolio, which invests exactly the same amount in each stock. (The iShares MSCI U.S.A. Equal Weight ETF
EUSA,
owns 630 stocks in equal weight, and charges a low 0.09 percent in annual fees.) Equal weighting is surely the most logical way to invest anyway.
If the “efficient markets” crowd are right, and each stock offers the same risk-adjusted potential return, why would I invest more in one stock than in 200 others? And if they aren’t right…well, the same question applies.
This story originally appeared on Marketwatch
