Is the S&P 500 Still a Diversified Portfolio?

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Triple digit golfer
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Triple digit golfer »

If Amazon was separate companies for cloud services, retail, distribution, streaming, and e-commerce, would you still say sector risk is too high?

How about Apple separated into separate companies for hardware, software, retail, online streaming?

Google for cloud computing, advertising, software, hardware?

You get the idea.

These 4 or 5 big giants can easily be 15 or 20 companies. If they were and everything else was the same, you wouldn't even be giving this another thought.

I'll take a larger slice of Amazon than I will some small bank headquartered somewhere in Kansas.

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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by dknightd »

I consider the S&P 500 as diversified. Perhaps not as diversified as I would like. The Russel 3000 might be better. But I suspect they correlate with each other pretty well. Probably all stock funds correlate to some degree. I own some small cap, and international, and emerging market, but sometimes I wonder why. I guess for further diversification, but frankly, if they ever out perform the simple S&P 500 I might sell them and simplify things. The S&P 500 is what I use as a broad brush view of how stocks did today.

You could argue that "Facebook, Alphabet/Google, and Netflix" and similar, are actually utilities. They are technology based communication utilities. Well almost. Maybe better to classify them as entertainment? I would consider an internet service provider as a technology based communication utility. Gas and electric are not the only utilities we use these days.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by JoMoney »

dknightd wrote: Wed Oct 06, 2021 7:40 am... But I suspect they correlate with each other pretty well. Probably all stock funds correlate to some degree...
They sure do when liquidity dries up. I can remember in 2008-2009 when everything together was falling like a rock.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by ChinchillaWhiplash »

Diversified, but top heavy. Doesn’t matter what type of company. Think it just matters that the top holdings are a high percentage. There are enough companies to keep the whole thing from going to zero and not rebounding though.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by dknightd »

JoMoney wrote: Wed Oct 06, 2021 7:46 am
dknightd wrote: Wed Oct 06, 2021 7:40 am... But I suspect they correlate with each other pretty well. Probably all stock funds correlate to some degree...
They sure do when liquidity dries up. I can remember in 2008-2009 when everything together was falling like a rock.
I'm kind of glad I do not remember 2008-2009
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by GP813 »

The market cap of the S&P500 companies is $40.3 trillion, the market cap of all publicly traded companies in the world is $93 trillion.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Triple digit golfer »

GP813 wrote: Wed Oct 06, 2021 10:49 am The market cap of the S&P500 companies is $40.3 trillion, the market cap of all publicly traded companies in the world is $93 trillion.
That's why I hold world market cap, for all intents and purposes.

In reality, I'm about 50% S&P 500, 10% U.S. Total Market, 40% Total International.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by dknightd »

GP813 wrote: Wed Oct 06, 2021 10:49 am The market cap of the S&P500 companies is $40.3 trillion, the market cap of all publicly traded companies in the world is $93 trillion.
Trillion. we are pawns
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by hnd »

For me, its likely already been stated but I look at it like this :

- the top 10 stocks in the SP500 while only 10 "companies", they truly are actually about 50-100 companies in reality it seems. Each affected by their own markets and set of circumstances (AWS, Amazon retail, Amazon music, Amazon Prime, Alexa, Amazon Blink, etc etc)

- likewise, while the sp500 is what 35-40% technology...technology products fit across every other sector and are affected by said sector more so than being a "technology" product even though that is the sector they technically reside in. (Square and Paypal are considered Technology sector, but in truth are more Financial and affected by that market than the Technology sector)

Therefore the sp500 is IMO truly diversified regardless of its labeled. Labels drive me nuts when it comes to investing. I mean Berkshire is labeled a Growth company because it doesn't pay a dividend but does anyone really consider it a growth company?
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Northern Flicker »

MIretired wrote: Wed Oct 06, 2021 3:17 am
Northern Flicker wrote: Wed Oct 06, 2021 2:14 am
MIretired wrote: I guess I don't see this as a sector or concentrated sector problem. It may seem so now, but can't know the result of next black swan.
Risk management should never be based on predicting what the next adverse event will be.
Does that mean that risk management should not rely on the immediate past?
It should not rely on trying to predict what may or may not happen. Sector concentration as a risk exists independent of what sectors we think will or will not perform well.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by GP813 »

hnd wrote: Wed Oct 06, 2021 11:43 am For me, its likely already been stated but I look at it like this :

- the top 10 stocks in the SP500 while only 10 "companies", they truly are actually about 50-100 companies in reality it seems. Each affected by their own markets and set of circumstances (AWS, Amazon retail, Amazon music, Amazon Prime, Alexa, Amazon Blink, etc etc)

- likewise, while the sp500 is what 35-40% technology...technology products fit across every other sector and are affected by said sector more so than being a "technology" product even though that is the sector they technically reside in. (Square and Paypal are considered Technology sector, but in truth are more Financial and affected by that market than the Technology sector)

Therefore the sp500 is IMO truly diversified regardless of its labeled. Labels drive me nuts when it comes to investing. I mean Berkshire is labeled a Growth company because it doesn't pay a dividend but does anyone really consider it a growth company?
I think the tech bubble really traumatized investors. Would you call Honeywell, John Deere, and Caterpillar tech companies? Traditionally nobody would have considered them tech companies but look at the growth of their business in the last decade and what areas they project for future growth.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Boglegrappler »

The fear of concentration in the S&P 500 may be justified to a small degree, but if you look at some facts, it makes sense.

Microsoft and Apple have the largest net incomes in the group at the current time, and it totals about 12.5% of the net income of the index (this includes subtracting losses booked by the companies that have negative net income for the year).

The top 20 companies by income literally earn 50% of the net income of the index companies. Microsoft's net income of about 60 billion is 10x what is earned by, for instance, Eli Lilly, Lowes, or Nike, which all rank at the edge of the top 10% by size of net income.

You have to look at some of the underlying reasons for valuations rather than just the valuation levels themselves.

The list of top companies by net income starts like this (source is the barcharts website).

Microsoft Corp
Apple Inc
Berkshire Hathaway Cl B
Alphabet Cl C
Alphabet Cl A
Facebook Inc
JP Morgan Chase & Company
Amazon.com Inc
Intel Corp
Bank of America Corp
Verizon Communications Inc
Unitedhealth Group Inc
Johnson & Johnson
Procter & Gamble Company
Oracle Corp
Wal-Mart Stores
Home Depot
Citigroup Inc
Morgan Stanley

If you go to that site and download the index data, and fiddle around with it, you'll see that the valuations very roughly follow the net income, with adjustments made for growth rates, and various operating and financial risks.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Triple digit golfer »

hnd wrote: Wed Oct 06, 2021 11:43 am For me, its likely already been stated but I look at it like this :

- the top 10 stocks in the SP500 while only 10 "companies", they truly are actually about 50-100 companies in reality it seems. Each affected by their own markets and set of circumstances (AWS, Amazon retail, Amazon music, Amazon Prime, Alexa, Amazon Blink, etc etc)

- likewise, while the sp500 is what 35-40% technology...technology products fit across every other sector and are affected by said sector more so than being a "technology" product even though that is the sector they technically reside in. (Square and Paypal are considered Technology sector, but in truth are more Financial and affected by that market than the Technology sector)

Therefore the sp500 is IMO truly diversified regardless of its labeled. Labels drive me nuts when it comes to investing. I mean Berkshire is labeled a Growth company because it doesn't pay a dividend but does anyone really consider it a growth company?
Exactly what I was trying to say in my posts in this thread.

People get caught up in the arbitrary labels.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Beensabu »

Northern Flicker wrote: Wed Oct 06, 2021 12:24 am My concern is that increased sector concentration increases the potential for greater volatility and larger drawdowns.
That's a valid concern.

It could also be expressed as increased concentration in individual companies or (as someone else has said) increased "valuation concentration".

Essentially, increased concentration of any kind increases the potential for greater volatility and larger drawdowns.

As people have said, the cap weighted index captures the greater returns of outperforming companies, resulting in them achieving a greater weight proportionately in the index. A cap weighted index fund is a momentum fund. You participate in the gains of the outperforming companies. As the outperformers become a larger and larger portion of the index, concentration increases over time.

With that concentration comes greater return (with rising momentum) and greater risk (of falling momentum). You don't get one without the other.

The risk is the risk that you have stated.

What is the level of concentration at which one should become seriously concerned? We'll find out eventually. And then we'll know that for next time -- at which point the level will either be lower or higher, just for kicks.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Johnathon Livingston »

This is perhaps another way of asking whether a sell off of technology stock (which is the sector I assume you think may be heavy in the S&P 500) can be offset by a rotation into other sectors to keep the market or fund up overall. I think the answer is “it depends.” Under some scenarios, yes stocks rotate or there are corrections within the market but the fund stays up overall. Under other scenarios the market or the S&P 500 in particular go down by an event that triggers a sell off within a sector.

All they being said, I personally view the S&P 500 or the US total stock market to pose sector concentration risk in technology. I diversify across markets globally, in part, to spread and therefore reduce risk.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by willthrill81 »

The S&P 500 diversifies against the risks of single stocks very well.

However, the S&P 500 is not a 'portfolio'. It is a single asset, U.S. large-cap stocks, and it's returns are equal to market beta.

As such, the S&P 500 is not diversified at all in terms of return drivers.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Northern Flicker »

Portfolios implement asset classes. Large cap stocks form an asset class. An S&P 500 fund is one equity portfolio that implements the asset class. The definition of investment portfolio does not require holding more than one asset class.

The S&P 500 has a negative loading on size, and has had slightly positive loadings on value and quality:

https://www.portfoliovisualizer.com/fac ... sion=false

The small magnitude loadings on value and quality perhaps are an artifact of chance, rather than statistically significant, but they do show up in various time periods with some consistency, even during the dot-com bubble:

https://www.portfoliovisualizer.com/fac ... sion=false

Avoiding the lottery ticket microcaps that live say outside the Russell 3000 is sufficient to have a slight value and quality tilt:

https://www.portfoliovisualizer.com/fac ... sion=false
Last edited by Northern Flicker on Wed Oct 06, 2021 4:22 pm, edited 1 time in total.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by willthrill81 »

Northern Flicker wrote: Wed Oct 06, 2021 4:11 pm The S&P 500 has a negative loading on size, and has had slightly positive loadings on value and quality:

https://www.portfoliovisualizer.com/fac ... sion=false

The small magnitude loadings on value and quality perhaps are an artifact of chance, rather than statistically significant, but they do show up in various time periods with some consistency, even during the dot-com bubble:

https://www.portfoliovisualizer.com/fac ... sion=false

Portfolios implement asset classes. Large cap stocks form an asset class. An S&P 500 fund is one equity portfolio that implements the asset class. The definition of investment portfolio does not require holding more than one asset class.
M* puts VFIAX almost right in the middle of the 'blend' category. I don't know if they measure quality, at least among their free tools.

Image
https://www.morningstar.com/funds/xnas/vfiax/portfolio
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Beensabu »

Northern Flicker wrote: Wed Oct 06, 2021 4:11 pm The definition of investment portfolio does not require holding more than one asset class.
Right. An investment portfolio could be all cash. Or all gold bars. Or collectibles. Or real estate. As long as it could be considered some kind of "financial investment".
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by abuss368 »

Ferdinand2014 wrote: Tue Oct 05, 2021 7:40 am I also believe that many companies cross many lines of sectors. That alone would make it difficult to test diversification relative to sector concentration. Is Berkshire Hathaway a utility company? Railroad? Insurance business? Is amazon an online book retailer? Distribution and logistics company or a cloud services tech company? Is Alphabet an advertising company?

I guess I view sectors as a random divider that is what it is. I view market cap as what the investing world thinks the value should be. The S&P captures 80% of that value with a .99 correlation to the total market.
Excellent points. Low cost and diversified funds avoid the risk of market sector funds. When I first moved to Vanguard, I had invested (perhaps speculated is more fitting) in the Healthcare, REIT, Precious Metals, and Energy sector funds.

Then I read Jack Bogle’s advice that “most investors could go their entire lifetime without the need for a sector fund”. Mr. Bogle further recommended that investors “don’t own too many funds”.

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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by selters »

brybogle wrote: Tue Oct 05, 2021 2:48 am In 1990, the top S&P 500 holding was IBM. In 2000, it was GE. In 2010, it was Exxon. As these companies declined, it was balanced by the rise of Apple and Amazon, which were also in the S&P 500.

The winners balance out the losers. And so it will be as tech falls out of favor, you will own increasing percentages of the new hot sectors. So, it "naturally" rebalances and diversifies itself in a sense.
Just like the winners balanced out the losers from 2000 to 2010 (with an annualized return of minus one percent or so)?
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by sycamore »

willthrill81 wrote: Wed Oct 06, 2021 4:16 pm ...
M* puts VFIAX almost right in the middle of the 'blend' category. I don't know if they measure quality, at least among their free tools.
Going off on a side track...

On the M* VFIAX fund portfolio page, there is a "Factor Profile":

Image

Relative to other funds in the Large Blend category, S&P 500 appears to be about average in terms of quality. I'm not really sure how to read the chart; the little investigation I've done of factors has been at portfoliovisualizer where it reports on QMJ (Quality Minus Junk) factor using AQR factor data. Not sure if M* is at all comparable.

M*'s factor definitions can be found by clicking on the little info icon in the chart:
The quality factor describes the profitability and financial leverage of a company, based on an equally weighted mix of trailing 12-month return on equity and debt-to-capital ratios. A higher exposure to the quality factor indicates a higher quality of the firm.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by 000 »

sycamore wrote: Thu Oct 07, 2021 2:38 pm
willthrill81 wrote: Wed Oct 06, 2021 4:16 pm ...
M* puts VFIAX almost right in the middle of the 'blend' category. I don't know if they measure quality, at least among their free tools.
Going off on a side track...

On the M* VFIAX fund portfolio page, there is a "Factor Profile":

Image

Relative to other funds in the Large Blend category, S&P 500 appears to be about average in terms of quality. I'm not really sure how to read the chart; the little investigation I've done of factors has been at portfoliovisualizer where it reports on QMJ (Quality Minus Junk) factor using AQR factor data. Not sure if M* is at all comparable.

M*'s factor definitions can be found by clicking on the little info icon in the chart:
The quality factor describes the profitability and financial leverage of a company, based on an equally weighted mix of trailing 12-month return on equity and debt-to-capital ratios. A higher exposure to the quality factor indicates a higher quality of the firm.
Interesting how large the historical range for momentum is. I guess that is to be expected. It is much smaller for VTI.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by nisiprius »

dknightd wrote: Wed Oct 06, 2021 10:00 am
JoMoney wrote: Wed Oct 06, 2021 7:46 am
dknightd wrote: Wed Oct 06, 2021 7:40 am... But I suspect they correlate with each other pretty well. Probably all stock funds correlate to some degree...
They sure do when liquidity dries up. I can remember in 2008-2009 when everything together was falling like a rock.
I'm kind of glad I do not remember 2008-2009
A poster during that time wrote "low correlation means all your holdings plummet at different speeds."
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by namajones »

Is the question an attempt to justify just holding the S&P 500 and feeling good about it?
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by ChinchillaWhiplash »

I don’t think there is a sector concentration. Seems to be a wide variety of products/services produced/provided by the top market cap companies. It’s not like the top 30% are all airlines or car makers. Concentration like that would make me nervous. I would say that it is diversified enough.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by MIretired »

Well, I'll post contrary to what I have earlier in this thread where I implied any stock diversifies any stock equally, notwithstanding by market cap weighting ( an issue in itself re. diversification.)
There are myriad of definitions in degrees of what is diversifiable on the net creating a gray area between unsystematic and systematic risk. Such a gray area is sectors or segments.
It seems the strictest definition is like companies diversify company specific risk; unlike companies in other industries-less so.
One site on the net suggests weighting the market by market beta. Wow.

It all becomes the similar argument of an equal weight S&P, vs cap weight.
I will go with cap weight because of EMH.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by SteadyOne »

The question is how to measure diversification in this sense. If it’s equally weighted allocation across predefined sectors, then the obvious solution is the equal percentage allocation across those sectors with proper rebalancing from time to time.

So if 10 industry sectors exist, then allocate 10% of equity portfolio to each with 10 sectors ETFs and rebalance accordingly. It might work better than S&P500.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by willthrill81 »

SteadyOne wrote: Mon Jan 17, 2022 2:03 pm The question is how to measure diversification in this sense.
I'm of the opinion that start date sensitivity is a good measure of 'long-ish' term diversification.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by Dude2 »

As one burned by the Tech Bubble, I like this idea of being wary of an over-concentration in technology and balancing with more utilities -- the one being an unproven, risky proposition and the other a tried and true, though boring, friend to the end. Take this to a conclusion and you might say that it is more conservative financially to go total market than S&P500 which I don't think is how people perceive it. There's a problem defining how big a market has to be and what total even means. (Stating the obvious.) But the larger issue of why all of this is a big deal is related to the irrationality of markets, and the Tech Bubble was such an example of that irrationality. Therefore, why would you want to be too concentrated in something like that if you could avoid it or diminish its effects? (Perhaps "technology" is akin to magic or miracles, hence, irrationality; whereas, "science" is less likely to move markets.)
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by vtsnowdin »

A market cap weighted index fund is just that ,cap weighted,. They seem to have worked well for 47 years.
The top ten or so in the S&P are indeed huge gorillas in the room and sleep anywhere they want but what would you do about it?
If some one put together a bottom 450 S&P index would you buy it? Would there be any decrease in risks? How much potential profit would you give away?
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by willthrill81 »

vtsnowdin wrote: Tue Jan 18, 2022 6:43 am A market cap weighted index fund is just that ,cap weighted,. They seem to have worked well for 47 years.
The top ten or so in the S&P are indeed huge gorillas in the room and sleep anywhere they want but what would you do about it?
If some one put together a bottom 450 S&P index would you buy it? Would there be any decrease in risks? How much potential profit would you give away?
U.S. large-cap growth has done so well for so long now that it's hard for many to imagine it being otherwise going forward.

But we don't have to look back too far to see when precisely the opposite was the case. As discussed in this thread, at the beginning of the year 2000, the top 10 tech stocks by market cap, which cumulatively comprised 25% of the S&P 500, all went on to dramatically underperform the S&P 500 over the next 18 years.

Investors who want more than just exposure to large-cap stocks can move a portion of their portfolio into small-caps.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by SteadyOne »

willthrill81 wrote: Mon Jan 17, 2022 9:28 pm
SteadyOne wrote: Mon Jan 17, 2022 2:03 pm The question is how to measure diversification in this sense.
I'm of the opinion that start date sensitivity is a good measure of 'long-ish' term diversification.
My question is more about portfolio ‘truly’ diversified across sectors? If one uses valuation only, then S&P 500 index already doing that. If not valuation, then what? One approach might be to keep sectors within certain band, not sure how to execute this without some sort of complex solution.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by ckangas »

vtsnowdin wrote: Tue Jan 18, 2022 6:43 am A market cap weighted index fund is just that ,cap weighted,. They seem to have worked well for 47 years.
The top ten or so in the S&P are indeed huge gorillas in the room and sleep anywhere they want but what would you do about it?
If some one put together a bottom 450 S&P index would you buy it? Would there be any decrease in risks? How much potential profit would you give away?
A world market cap weighted index fund has done well given a long enough period of time.
The S&P500 has eventually recovered given a longer period of time.
But not all country specific LCB funds have done well.

To interject the example we've all heard a hundred times, in 1989, Japan was above the US in market cap. The situation is obviously different than now, but 30+ years later....
A Japanese investor holding the equivalent of VT did quite well.
A Japanese investor diversified across caps, styles, etc. eventually recovered and had a small gain.
A Japanese investor holding the equivalent of VOO is still underwater.

Note that I'm not making any predictions for average expected returns, timing based on valuations, or even suggesting anything past global market cap. Or even suggesting anything at all based on risk capacity.

But there's still geographic tail risk, for lack of a better phrase. Which doesn't show up. Until it does.
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Re: Is the S&P 500 Still a Diversified Portfolio?

Post by willthrill81 »

SteadyOne wrote: Tue Jan 18, 2022 12:38 pm
willthrill81 wrote: Mon Jan 17, 2022 9:28 pm
SteadyOne wrote: Mon Jan 17, 2022 2:03 pm The question is how to measure diversification in this sense.
I'm of the opinion that start date sensitivity is a good measure of 'long-ish' term diversification.
My question is more about portfolio ‘truly’ diversified across sectors? If one uses valuation only, then S&P 500 index already doing that. If not valuation, then what? One approach might be to keep sectors within certain band, not sure how to execute this without some sort of complex solution.
There are many ways to skin the proverbial cat. Equally weighting sectors could be one, but I've not seen how helpful this would have been, and what qualifies as a sector could be very subjective. And backtesting the historic performance of that could be very difficult since some sectors don't have a long history (e.g., tech).

I'm personally more persuaded by diversification across factors, but that's just me.
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