S&P weighting of FANG+

[Retireby45ish]

Just read this article and thought it was interesting. Clearly a handful of stocks pulling the index up (or down) the last few months.

My question is, what to do about being so overweight these companies? I actually also own aapl, goog... have for years. they are about 12% of portfolio plus what I own thru index portion. So quite a bit...most of this is because they have done so well for me. But because of all the gains I don’t want to sell them out now either or else my tax hit would be significant as I’m still in a high bracket. Hmmm...


https://www.marketwatch.com/story/the-hidden-risk-hiding-in-your-sp-500-index-fund-2020-07-17

 

[RetiredAtThirty-eight]

Just read this article and thought it was interesting. Clearly a handful of stocks pulling the index up (or down) the last few months.

My question is, what to do about being so overweight these companies? I actually also own aapl, goog... have for years. they are about 12% of portfolio plus what I own thru index portion. So quite a bit...most of this is because they have done so well for me. But because of all the gains I don’t want to sell them out now either or else my tax hit would be significant as I’m still in a high bracket. Hmmm...


https://www.marketwatch.com/story/the-hidden-risk-hiding-in-your-sp-500-index-fund-2020-07-17

I think the article confuses volatility with risk. As long as there is good underlying growth, volatility is not a problem for long-term investments.

You ask what you can do?? Easy, simply follow the traditional rule that you don't invest money you will need in the next 2-5 years in the market. This includes index funds. The likely addition of Tesla to the S&P 500 next month will add another small measure of stability because Tesla is not pure tech but offers elements of manufacturing of durable goods and energy production and storage.

Don't get me wrong - Tesla is chocked full of tech but it is different from traditional tech companies in that the tech is not tied to business productivity like cloud services from MSFT, GOOG and AMZN. This should add a measure of stability to the S&P 500. But it's still stocks so you have to plan for being able to sit out a 2-5 year downturn. I actually think the economic cycles are accelerating in the information age and 2 years is a good safe number in our modern economy.

 

[BeachOrCity]

I would not worry at all. It only took 15 years for folks investing in the nasdaq 100 in early 2000 to get back to where they were.

The point of my sarcasm is to diversify. It’s the only free lunch in investing the old saying goes. So have some FANG or the current ‘thing’ but not too much.

 

[Retireby45ish]

I would not worry at all. It only took 15 years for folks investing in the nasdaq 100 in early 2000 to get back to where they were.

The point of my sarcasm is to diversify. It’s the only free lunch in investing the old saying goes. So have some FANG or the current ‘thing’ but not too much.

I guess my question is, how do you diversify when the snp is so heavily in a handful of stocks? I assume you and most are in the same boat. Outside of my extra holdings which have grown to be outsized due to their performance, we all hold the same “overweight” handful of companies in our “diversified” funds.

 

[pb4uski]

I guess my question is, how do you diversify when the snp is so heavily in a handful of stocks?....

You can buy sector funds weighted differently than the S&P 500. In fact, there are equal weighted S&P index ETFs available that equally weight sectors rather than cap weight sectors.

 

[BeachOrCity]

You can buy sector funds weighted differently than the S&P 500. In fact, there are equal weighted S&P index ETFs available that equally weight sectors rather than cap weight sectors.

personal capital's managed asset program is built completely around this. I can tell you as a customer for a small part of my $$$ they slightly trailed the market (by most measures incl S&P,DJIA, as well as total market) in the time they have been active. And I mean trailed it going up (as tech out performed) and trailed it going down (as tech went up while market went down). This is all due to tech and to growth out performing value i suppose.

All that being said, I think at this point the easy money on tech / growth has already been made. I would not exclude it, but I would tilt toward TOTAL market, not just S&P 500. Example: even if amazon were to increase profits to $30B a year it would still be >50x earnings. But if their margins expand to be $30B in profit there WILL be more competition. They have a scale moat, but not a completely anti competitive moat.

If I were investing in tech as individual issues, I would want to understand just how invincible a given company's 'moat' is. Facebook comes to mind, but I think there is a real regulation risk with them. Better to just buy the market....when it is reasonably valued.

I don't know anyone who over their investing lifetime has been able to continually pick individual stocks and beat the market. The sheen is off Buffett lately, though his sidelines approach and waiting may prove wise in the end.

 

[NW-Bound]

I would not worry at all. It only took 15 years for folks investing in the nasdaq 100 in early 2000 to get back to where they were...

When people pay for earnings 15 years into the future, the stock price crashes afterward and they have to wait 15 years for the companies to deliver, in order for the stock price to recover to where it was. This makes sense.

Your post reminded me to look again at a chart comparing the NASDAQ and the Dow during the run-up in 2000, and what happened afterwards. The one that came up the most crashed the hardest.

And then, I look at what is happening now.

PS. Not all of tech stocks have outrageous P/E ratios. In fact a few currently less popular tech stocks have a P/E ratio lower than that of Walmart and Target. The dichotomy is there for people who care to look for it. Same as in 2000, stocks that are mentioned the most in the media go up the most, because that's all that people know. It causes a feeding frenzy, and it is not easy to predict when this feeding will abruptly stop.

 

[RetiredAtThirty-eight]

The P/E ratio is the most over-relied upon metric of them all. Because it does not look even 2 years forward.

 

[OldShooter]

I guess my question is, how do you diversify when the snp is so heavily in a handful of stocks? ...

Well, how about this: Don't buy the S&P. It is a sector fund; large cap US stocks. Sector bets are risky.

Granted the weight of the S&P is hard to avoid, at about 80% of the US market cap and 40% of the world market cap (both IIRC, I haven't checked lately.) But buying a total US market fund and a healthy dollop of international stocks at least tones down the risk a bit. If you want, you can even underweight the S&P using one of those "everything but the S&P" funds. But that's a sector bet, too. Not my cup of tea but YMMV.

Buying the S&P has never made sense to me and I have never done it. Arguably it has been a strong sector for the last decade but predicting sector performance is a job for monkeys with darts. So the large cap US monkey got lucky. Which monkey will get lucky during the next decade? Who knows? Reversion to the mean argues that it won't be the large cap US monkey again.

Re equal weighted funds, from a distance they appear to implement a strategy of underweighting winners. I'll wait five or ten years to see a track record. I have not paid a lot of attention, but IIRC their short term track records have not been all that great.

... It only took 15 years for folks investing in the nasdaq 100 in early 2000 to get back to where they were. ...

Yup. Another argument for diversification and away from sector bets.

 

[pb4uski]

Found this:

 

[jazz4cash]

I think the article confuses volatility with risk.

I don’t think the correlation of risk and volatility is accidental. Correlating volatility to risk is widely accepted but I don’t agree with that view.

 

[OldShooter]

I don’t think the correlation of risk and volatility is accidental. Correlating volatility to risk is widely accepted but I don’t agree with that view.

Me neither. AFIK it originated with Harry Markowitz' 1952 paper "Portfolio Selection" (https://www.math.ust.hk/~maykwok/courses/ma362/07F/markowitz_JF.pdf). There he makes this (IMHO) leap:

"The concepts "yield" and "risk" appear frequently in financial writings. Usually if the term "yield" were replaced by "expected yield" or "expected return," and "risk" by "variance of return," little change of apparent meaning would result."
​

From that, he launches into discussion of standard deviation and all the fun one can have playing with that. Never mind that he does not address the problem that stock prices are not normally (Gaussian) distributed, so it is not at all clear what SD means in a market context. He got the Nobel, though, and I have never gotten any phone calls from Sweden. My consolation is that Nassim Taleb is quite derisive about this leap as well.

I think variance is risk in situations where high variance assets must be sold regardless of their price level. This is SORR, but again IMO it can be fairly easily mitigated by an AA that substantially reduces the likelihood that the holder will be forced to sell into a down market. & for someone in the accumulation phase of life and dollar-cost averaging, I think high variance is actually advantageous.

 

[RetiredAtThirty-eight]

I would not worry at all. It only took 15 years for folks investing in the nasdaq 100 in early 2000 to get back to where they were.

The point of my sarcasm is to diversify. It’s the only free lunch in investing the old saying goes. So have some FANG or the current ‘thing’ but not too much.

NASDAQ 100 is not the S&P 500.

 

[ERD50]

...
Buying the S&P has never made sense to me and I have never done it. Arguably it has been a strong sector for the last decade but predicting sector performance is a job for monkeys with darts. So the large cap US monkey got lucky. Which monkey will get lucky during the next decade? Who knows? Reversion to the mean argues that it won't be the large cap US monkey again. ....

Separate from the discussion of including International, while I agree that the S&P 500 can be seen as a sector, it doesn't seem to be a very significant difference. This probably won't format well, and I'm too lazy to fix it but VTI versus SPY holdings, but bottom line, top 10 for SPY make up 26.86%; for VTI 21.72% :

spy
Microsoft Corp MSFT 6.00%
Apple Inc AAPL 5.78%
Amazon.com Inc AMZN 4.49%
Facebook Inc A FB 2.12%
Alphabet Inc A GOOGL 1.65%
Alphabet Inc Class C GOOG 1.61%
Johnson & Johnson JNJ 1.44%
Berkshire Hathaway Inc Class B BRK.B 1.35%
Visa Inc Class A V 1.27%
Procter & Gamble Co PG 1.15%
26.86%

vti
Microsoft Corp MSFT 4.71%
Apple Inc AAPL 4.28%
Amazon.com Inc AMZN 3.47%
Facebook Inc A FB 1.82%
Alphabet Inc A GOOGL 1.46%
Alphabet Inc Class C GOOG 1.39%
Johnson & Johnson JNJ 1.32%
Berkshire Hathaway Inc Class B BRK.B 1.18%
Visa Inc Class A V 1.12%
Procter & Gamble Co PG 0.97%
21.72%

That said, I've moved away from SPY to VTI, and some IWM (Russel 2000 ndex, which measures the performance of the small-capitalization sector of the U.S. equity market. ) to get some weight to the bottom group (when I can do it w/o tax consequences). It's easy, so why not? But I don't expect it to make much of a difference either way.

And here's IWM:

Top 10 Holdings (2.78% of Total Assets)
Get Quotes for Top Holdings
Name Symbol % Assets
Deckers Outdoor Corp DECK 0.31%
LHC Group Inc LHCG 0.30%
BJ's Wholesale Club Holdings Inc BJ 0.29%
Churchill Downs Inc CHDN 0.29%
Helen Of Troy Ltd HELE 0.27%
MyoKardia Inc MYOK 0.27%
Novavax Inc NVAX 0.27%
SiteOne Landscape Supply Inc SITE 0.27%
EastGroup Properties Inc EGP 0.26%
Ultragenyx Pharmaceutical Inc RARE 0.25%

-ERD50

 

[Markola]

I guess my question is, how do you diversify when the snp is so heavily in a handful of stocks? I assume you and most are in the same boat. Outside of my extra holdings which have grown to be outsized due to their performance, we all hold the same “overweight” handful of companies in our “diversified” funds.

It’s not difficult. One can simply buy Vanguard Total World Bond and Total World Stock ETF in the AA one prefers and have exposure to more than 24,000 securities.

 

[OldShooter]

... I agree that the S&P 500 can be seen as a sector, it doesn't seem to be a very significant difference. ...

Agreed. You can see the same thing on Portfolio Visualizer when you compare the two.

Really the only way to seriously mitigate or eliminate S&P 500 risk is to overweight the everything-but-the-S&P funds. Our approach (and @Markola's) of buying a world stock fund is stronger mitigation than just a total US stock fund but even on the world stage the S&P is the heavy player.

That said, I've moved away from SPY to VTI, and some IWM (Russel 2000 ndex, which measures the performance of the small-capitalization sector of the U.S. equity market. ) to get some weight to the bottom group (when I can do it w/o tax consequences). It's easy, so why not? But I don't expect it to make much of a difference either way. ...

Yup. As you say, why not? At least it's something. And the academics would say that a small cap and/or value tilt is wise too. So you are on solid ground with that.

In ten years or so we'll start to know how this all worked out.