S&P 500: How much is too much?

Written by: Global Thought Leadership | September 01, 2017
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Source: Bloomberg, as of 8/28/2017. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment. 

The Bottom Line

  • With hundreds of constituents, the S&P 500 equity index would seem to be quite diversified.
  • Yet a closer look reveals investors in the index may not be as diversified as they think.
  • Because the S&P 500 (and many other equity indexes) are market-capitalization weighted, some stocks and sectors are represented far more than others.
  • Indeed, the top 25 holdings accounted for more than one-third of the market-capitalization of the entire index (as of August 28).1
  • In addition, three sectors accounted for more than half of the index’s value. And within the largest sector (Information Technology), just four stocks represented nearly half of the sector’s weight, while the remaining 64 stocks accounted for the other 50%.
  • What’s more, the Information Technology sector’s weighting has increased substantially this year, from 20.77% to 23.33%. The driver, of course, was the sector’s dramatic outperformance of the overall index (24.1% to 10.6%) through August 28, 2017—thanks to big gains from the largest companies in the sector.
  • What all this illustrates is that a passive index approach can easily lead to unintended exposures to certain stocks and sectors.
  • Even more important, it can lead investors to miss out on opportunities in stocks whose market capitalizations are relatively small, but which may have greater future growth potential.
  • Active managers, who can be selective about which stocks to own and how to weight them, are free to build portfolios that look different from the S&P 500 and other indexes, avoiding the implicit concentration risks.
  • Being different from the index is by definition essential to perform better than the index over time—and to be positioned to adjust positions when markets experience periodic bouts of unexpected volatility.

 


1 Source for all data is Bloomberg.

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IMPORTANT INFORMATION: All investments involve risk, including loss of principal. Past performance is no guarantee of future results. An investor cannot invest directly in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges.

Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls. International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice.  Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not  take into account the particular investment objectives, financial situation or needs of individual investors.

Diversification does not guarantee a profit or protect against loss.

Outperformance does not imply positive results.

Active management does not ensure gains or protect against market declines.