MW How a more-focused growth index can cut your risk in the stock market
By Philip van Doorn
Nick Kalivas of Invesco suggests a growth strategy that lowers investors' risk from the S&P 500's Big Tech concentration
This week's action in the stock market has made clear that the S&P 500 has become a riskier play - despite its status as the benchmark for U.S. large-cap stocks - because it has become a highly concentrated growth index. But there is an easy way to cut this risk while still holding large-cap growth stocks in a low-cost index fund.
On Monday, shares of Nvidia Corp. $(NVDA)$ fell more than 17% after the news came out that DeepSeek was able to develop generative useful artificial-intelligence technology cheaper than had previously been imagined. This caused some investors to sell Nvidia's stock over fears AI-hardware growth will slow - and hardware has been where Nvidia has dominated.
The S&P 500 declined only 1.5% on Monday, which may have been comforting, considering that Nvidia makes up more than 6% of the index. Apple Inc. $(AAPL)$ rose 3.2% on Monday. Then again, the Invesco QQQ Trust QQQ, which tracks the Nasdaq-100 Index NDX, fell 3% that day.
You may already have been well aware of the S&P 500's weighting by market capitalization. But Brett Arends did a most effective job making clear just how concentrated it is, and not only because the "Magnificent Seven" make up about a third of the index. (The seven components are Apple, Microsoft Corp. $(MSFT)$, Nvidia, Amazon.com Inc. $(AMZN)$, Meta Platforms Inc. $(META)$, Alphabet Inc. $(GOOGL)$ and Tesla Inc. $(TSLA)$.)
If you invest in the full S&P 500 SPX, you have "more than 500 times as many dollars bet on Nvidia as you do on Brown-Forman, maker of a niche brand of bourbon called Jack Daniel's that nobody has ever heard of," he wrote.
A pure growth approach can spread out the risk
The S&P 500 is tracked by many index funds. The oldest exchange-traded fund tracking the index is the $637 billion SPDR S&P 500 ETF Trust SPY, which holds all 500 stocks in the index and is weighted by market cap.
Nick Kalivas, Invesco's head of factor and core ETF strategy, shared with MarketWatch some interesting statistics about the S&P 500's increasing concentration and explained how the "second generation" of growth and value indexes can lower concentration risk.
Kalivas made these points about the full S&P 500:
-- At the end of 2024, the weight of the top 10 companies accounted for almost 39% of the weight of the S&P 500, but only 30% of earnings, according to Invesco's analysis of data provided by FactSet and Bloomberg. "These 10 names are ahead of earnings suggesting a valuation stretch," according to Kalivas.
-- The S&P 500's 39% weighting to its largest 10 stocks at the end of 2024 compared with top-10 weightings of 17.5% at the end of 2014 and 25.5% at the end of 1999 - which was close to the peak of the dot-com bubble.
-- At the end of 2024, the overlap between the Nasdaq-100 and S&P 500 was 49.3%. This is up from an overlap of 21.4% at the end of 2013. "This indicates that S&P 500 is growthy," Kalivas said.
-- The top 10 stocks in the S&P 500 contributed 55% of the volatility (standard deviation of return) for the index in 2024. "The number was about 35% during the technology bubble" that began to reverse in 2000, he said.
"A few handfuls of names are disproportionately driving volatility. They have large weights, high volatility and move together," Kalivas said.
So an obvious way to lower your risk is to take an equal-weighted approach, which is followed by the Invesco S&P500 Equal Weight S&P 500 ETF RSP. You can also broaden your horizons by diversifying into funds that track midcap or small-cap indexes. There are many of these and because of the asset-size caps, they are less concentrated than the S&P 500.
But what if you still want to pursue growth with large-cap U.S. stocks with a low-cost index fund that is less concentrated than the S&P 500?
S&P Dow Jones Indices divides the S&P 500 into the S&P 500 Growth Index and the S&P 500 Value Index, scoring stocks based on various factors. Growth metrics include trailing three-year increases in earnings and revenue, as well as 12-month price momentum. Value metrics include book value, earnings and revenue to price.
S&P's scoring methodology leads to overlapping groups of stocks. There are 207 stocks in the S&P 500 Growth Index, which is tracked by the iShares S&P 500 Growth ETF IVW. And there are 400 stocks in the S&P 500 Value Index, which is tracked by the iShares S&P 500 Value ETF IVE. The overlap is significant, with 106 companies in both the growth and value camps, according to data provided by FactSet. Among the companies in both the S&P Growth and Value indexes are Apple, Amazon and Microsoft.
Kalivas calls the S&P 500 Growth and S&P 500 Value indexes "first-generation styles," in part because they are weighted by market capitalization. This means that Nvidia makes up 11.9% of the iShares S&P 500 Growth ETF's portfolio.
Kalivas said investors who want to focus on growth stocks or value stocks and are worried about concentration in the S&P 500 should consider "second-generation" styles that are weighted by the selection methodologies' scores.
There are 88 stocks in the S&P 500 Pure Growth Index, which is tracked by the Invesco S&P 500 Pure Growth ETF RPG. There are 109 stocks in the S&P 500 Pure Value Index, which is tracked by the Invesco S&P 500 Pure Value ETF RPV. These indexes don't overlap. Nvidia makes up only 1.8% of the portfolio of the Invesco S&P 500 Pure Growth ETF.
This table compares the weightings for the largest 10 companies in the SPDR S&P 500 ETF Trust with weightings in the iShares S&P 500 Growth ETF and the Invesco S&P 500 Pure Growth ETF. The list includes 11 stocks, since there are two common share classes of Alphabet in the S&P 500.
Name Ticker Weight in SPDR S&P 500 ETF Trust $(SPY)$ Weight in iShares S&P 500 Growth ETF $(IVW)$ Weight in Invesco S&P 500 Pure Growth ETF $(RPG.AU)$ Apple Inc. AAPL 7.00% 6.21% 0.00% Microsoft Corp. MSFT 6.47% 6.49% 0.00% Nvidia Corp. NVDA 6.15% 11.87% 1.77% Amazon.com Inc. AMZN 4.33% 4.85% 0.00% Meta Platforms Inc. Class A META 2.86% 5.51% 1.19% Alphabet Inc. Class A GOOGL 2.22% 4.28% 0.00% Tesla Inc. TSLA 2.16% 4.17% 1.13% Broadcom Inc. AVGO 1.88% 3.63% 1.23% Alphabet Inc. Class C GOOG 1.82% 3.52% 0.00% Berkshire Hathaway Inc. Class B BRK.B 1.68% 1.58% 0.00% JPMorgan Chase & Co. JPM 1.46% 1.61% 0.00% Sources: State Street (for SPY), BlackRock (for IVW), Invesco (for RPG)
All 10 of the largest components of the S&P 500 are included in the S&P 500 Growth Index. But only four are included in the S&P 500 Pure Growth Index.
Here are the largest 10 holdings of the Invesco S&P 500 Pure Growth ETF:
Company Ticker Weight in Invesco S&P 500 Pure Growth ETF $(RPG)$ United Airlines Holdings Inc. UAL 2.57% Norwegian Cruise Line Holdings Ltd. NCLH 2.54% Carnival Corp. CCL 2.30% Royal Caribbean Group RCL 2.20% Delta Air Lines Inc. DAL 2.10% Vistra Corp. VST 2.02% Texas Pacific Land Corp. TPL 1.93% Apollo Global Management Inc. APO 1.87% Axon Enterprise Inc. AXON 1.85% Arista Networks Inc. ANET 1.82% Source: Invesco
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-Philip van Doorn
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January 29, 2025 10:18 ET (15:18 GMT)
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