Is the S&P 500 still diversified?

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rkhusky
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Re: Is the S&P 500 still diversified?

Post by rkhusky »

Which company is more likely to have financial problems or bankruptcy: Apple, Berkshire Hathaway, Exxon Mobil or News Corp, Ralph Lauren, Norwegian Cruise Line? Do you really want to hold these at equal weight?

Equal weight also doesn’t make sense in terms of mergers, acquisitions and spinoffs. If Apple split into 5 companies with nearly identical management, products and market share, would you really want to increase your stake in Apple technology 5-fold because of that? And if Berkshire spun off 100 of its subsidiaries, would you want to boost your stake in those 100-fold? Market cap is the only weighting where the underlying value is more important than the artificial stock ticker boundaries.
km91
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Re: Is the S&P 500 still diversified?

Post by km91 »

rkhusky wrote: Tue Jun 06, 2023 11:31 am Which company is more likely to have financial problems or bankruptcy: Apple, Berkshire Hathaway, Exxon Mobil or News Corp, Ralph Lauren, Norwegian Cruise Line? Do you really want to hold these at equal weight?

Equal weight also doesn’t make sense in terms of mergers, acquisitions and spinoffs. If Apple split into 5 companies with nearly identical management, products and market share, would you really want to increase your stake in Apple technology 5-fold because of that? And if Berkshire spun off 100 of its subsidiaries, would you want to boost your stake in those 100-fold? Market cap is the only weighting where the underlying value is more important than the artificial stock ticker boundaries.
This is somewhat a strawman argument. There was obviously a time when you could say the same thing about GE, Nortel, Enron, etc. Financial problems aren't the only risk a single stock is exposed to. Poor management decisions, poorly received products, bad PR, change in consumer tastes are equally likely to hit any of these companies. Idiosyncratic risks that hit the largest market cap companies will disproportionally affect the performance of a cap weighted portfolio. Equal weight probably isn't best way to diversify this risk though, small cap US or large cap international are much better options if you want to diversify a US large cap heavy portfolio
rkhusky
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Re: Is the S&P 500 still diversified?

Post by rkhusky »

km91 wrote: Tue Jun 06, 2023 12:49 pm
rkhusky wrote: Tue Jun 06, 2023 11:31 am Which company is more likely to have financial problems or bankruptcy: Apple, Berkshire Hathaway, Exxon Mobil or News Corp, Ralph Lauren, Norwegian Cruise Line? Do you really want to hold these at equal weight?

Equal weight also doesn’t make sense in terms of mergers, acquisitions and spinoffs. If Apple split into 5 companies with nearly identical management, products and market share, would you really want to increase your stake in Apple technology 5-fold because of that? And if Berkshire spun off 100 of its subsidiaries, would you want to boost your stake in those 100-fold? Market cap is the only weighting where the underlying value is more important than the artificial stock ticker boundaries.
This is somewhat a strawman argument. There was obviously a time when you could say the same thing about GE, Nortel, Enron, etc. Financial problems aren't the only risk a single stock is exposed to. Poor management decisions, poorly received products, bad PR, change in consumer tastes are equally likely to hit any of these companies. Idiosyncratic risks that hit the largest market cap companies will disproportionally affect the performance of a cap weighted portfolio. Equal weight probably isn't best way to diversify this risk though, small cap US or large cap international are much better options if you want to diversify a US large cap heavy portfolio
Being large is no guarantee against financial issues, but being internally diversified alleviates that to some extent. A small company with one product is at much higher risk that poor management decisions, poorly received products, bad PR, or change in consumer tastes will knock them out permanently.
km91
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Re: Is the S&P 500 still diversified?

Post by km91 »

rkhusky wrote: Tue Jun 06, 2023 2:09 pm
km91 wrote: Tue Jun 06, 2023 12:49 pm
rkhusky wrote: Tue Jun 06, 2023 11:31 am Which company is more likely to have financial problems or bankruptcy: Apple, Berkshire Hathaway, Exxon Mobil or News Corp, Ralph Lauren, Norwegian Cruise Line? Do you really want to hold these at equal weight?

Equal weight also doesn’t make sense in terms of mergers, acquisitions and spinoffs. If Apple split into 5 companies with nearly identical management, products and market share, would you really want to increase your stake in Apple technology 5-fold because of that? And if Berkshire spun off 100 of its subsidiaries, would you want to boost your stake in those 100-fold? Market cap is the only weighting where the underlying value is more important than the artificial stock ticker boundaries.
This is somewhat a strawman argument. There was obviously a time when you could say the same thing about GE, Nortel, Enron, etc. Financial problems aren't the only risk a single stock is exposed to. Poor management decisions, poorly received products, bad PR, change in consumer tastes are equally likely to hit any of these companies. Idiosyncratic risks that hit the largest market cap companies will disproportionally affect the performance of a cap weighted portfolio. Equal weight probably isn't best way to diversify this risk though, small cap US or large cap international are much better options if you want to diversify a US large cap heavy portfolio
Being large is no guarantee against financial issues, but being internally diversified alleviates that to some extent. A small company with one product is at much higher risk that poor management decisions, poorly received products, bad PR, or change in consumer tastes will knock them out permanently.
It's true to a degree for sure. But the problem isn't necessarily that small companies are more exposed to these risks, it's that the magnitude of these risks and their impact on your portfolio are much greater when they hit a large cap company. Accounting scandal at Apple is going to affect your portfolio to a much greater degree than accounting scandal at Ralph Lauren. That being said, the cap weight of the top 10 components of the S&P probably isn't a real risk that needs to be worried about in and of itself. The single country concentration, sector concentration, and valuation concentration when holding the S&P as the only equity exposure are probably more meaningful risks that should be considered
secondopinion
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Re: Is the S&P 500 still diversified?

Post by secondopinion »

km91 wrote: Tue Jun 06, 2023 3:56 pm
rkhusky wrote: Tue Jun 06, 2023 2:09 pm
km91 wrote: Tue Jun 06, 2023 12:49 pm
rkhusky wrote: Tue Jun 06, 2023 11:31 am Which company is more likely to have financial problems or bankruptcy: Apple, Berkshire Hathaway, Exxon Mobil or News Corp, Ralph Lauren, Norwegian Cruise Line? Do you really want to hold these at equal weight?

Equal weight also doesn’t make sense in terms of mergers, acquisitions and spinoffs. If Apple split into 5 companies with nearly identical management, products and market share, would you really want to increase your stake in Apple technology 5-fold because of that? And if Berkshire spun off 100 of its subsidiaries, would you want to boost your stake in those 100-fold? Market cap is the only weighting where the underlying value is more important than the artificial stock ticker boundaries.
This is somewhat a strawman argument. There was obviously a time when you could say the same thing about GE, Nortel, Enron, etc. Financial problems aren't the only risk a single stock is exposed to. Poor management decisions, poorly received products, bad PR, change in consumer tastes are equally likely to hit any of these companies. Idiosyncratic risks that hit the largest market cap companies will disproportionally affect the performance of a cap weighted portfolio. Equal weight probably isn't best way to diversify this risk though, small cap US or large cap international are much better options if you want to diversify a US large cap heavy portfolio
Being large is no guarantee against financial issues, but being internally diversified alleviates that to some extent. A small company with one product is at much higher risk that poor management decisions, poorly received products, bad PR, or change in consumer tastes will knock them out permanently.
It's true to a degree for sure. But the problem isn't necessarily that small companies are more exposed to these risks, it's that the magnitude of these risks and their impact on your portfolio are much greater when they hit a large cap company. Accounting scandal at Apple is going to affect your portfolio to a much greater degree than accounting scandal at Ralph Lauren. That being said, the cap weight of the top 10 components of the S&P probably isn't a real risk that needs to be worried about in and of itself. The single country concentration, sector concentration, and valuation concentration when holding the S&P as the only equity exposure are probably more meaningful risks that should be considered
I much rather hold of my entire portfolio in the bottom 5% of the market than in the single top stock of the market. However, once one has about 10 or so top companies, then most of the worry should disappear.

Of course, I wonder what the S&P 1 index (the leader only portfolio) would look like. Maybe it is not as bad as we make it (provided the stock gets replaced promptly)
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alluringreality
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Re: Is the S&P 500 still diversified?

Post by alluringreality »

secondopinion wrote: Tue Jun 06, 2023 6:05 pm once one has about 10 or so top companies, then most of the worry should disappear.
When buying from the top down by market weight, I think the largest 53 stocks from VOO are currently needed to keep Microsoft and Apple as accounting for less than 25%, at least based on the last info shown at ETF.com and Schwab. Basically that meets the 1940 act diversified criteria.
Of course, I wonder what the S&P 1 index (the leader only portfolio) would look like. Maybe it is not as bad as we make it (provided the stock gets replaced promptly)
Apparently at times the top of the market has underperformed the rest of the market, based on the following. Considering how the BLS inflation calculator lists $1 in Jan 1972 being worth $5.6 in Jan 2013, it suggests that the top returned less than inflation for that period. Granted, I think it's safe to say the top has outperformed the market and easily exceeded inflation since 2013.

Ned Davis Research wrote a piece a few years ago that showed from 1972 to 2013 the S&P 500 was up close to 5000% but if you would have owned just the biggest stock in the index every year you would have only gained around 400%.
https://awealthofcommonsense.com/2017/0 ... st-stocks/

The DFA graphic from a couple years ago about the top 10 history is included in the previous newer link.
https://awealthofcommonsense.com/2023/0 ... s-for-you/
Last edited by alluringreality on Wed Jun 07, 2023 7:26 am, edited 5 times in total.
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km91
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Re: Is the S&P 500 still diversified?

Post by km91 »

secondopinion wrote: Tue Jun 06, 2023 6:05 pm
km91 wrote: Tue Jun 06, 2023 3:56 pm
rkhusky wrote: Tue Jun 06, 2023 2:09 pm
km91 wrote: Tue Jun 06, 2023 12:49 pm
rkhusky wrote: Tue Jun 06, 2023 11:31 am Which company is more likely to have financial problems or bankruptcy: Apple, Berkshire Hathaway, Exxon Mobil or News Corp, Ralph Lauren, Norwegian Cruise Line? Do you really want to hold these at equal weight?

Equal weight also doesn’t make sense in terms of mergers, acquisitions and spinoffs. If Apple split into 5 companies with nearly identical management, products and market share, would you really want to increase your stake in Apple technology 5-fold because of that? And if Berkshire spun off 100 of its subsidiaries, would you want to boost your stake in those 100-fold? Market cap is the only weighting where the underlying value is more important than the artificial stock ticker boundaries.
This is somewhat a strawman argument. There was obviously a time when you could say the same thing about GE, Nortel, Enron, etc. Financial problems aren't the only risk a single stock is exposed to. Poor management decisions, poorly received products, bad PR, change in consumer tastes are equally likely to hit any of these companies. Idiosyncratic risks that hit the largest market cap companies will disproportionally affect the performance of a cap weighted portfolio. Equal weight probably isn't best way to diversify this risk though, small cap US or large cap international are much better options if you want to diversify a US large cap heavy portfolio
Being large is no guarantee against financial issues, but being internally diversified alleviates that to some extent. A small company with one product is at much higher risk that poor management decisions, poorly received products, bad PR, or change in consumer tastes will knock them out permanently.
It's true to a degree for sure. But the problem isn't necessarily that small companies are more exposed to these risks, it's that the magnitude of these risks and their impact on your portfolio are much greater when they hit a large cap company. Accounting scandal at Apple is going to affect your portfolio to a much greater degree than accounting scandal at Ralph Lauren. That being said, the cap weight of the top 10 components of the S&P probably isn't a real risk that needs to be worried about in and of itself. The single country concentration, sector concentration, and valuation concentration when holding the S&P as the only equity exposure are probably more meaningful risks that should be considered
I much rather hold of my entire portfolio in the bottom 5% of the market than in the single top stock of the market. However, once one has about 10 or so top companies, then most of the worry should disappear.

Of course, I wonder what the S&P 1 index (the leader only portfolio) would look like. Maybe it is not as bad as we make it (provided the stock gets replaced promptly)
I tend to agree, a single stock portfolio would be the absolute last portfolio I'd choose to own, even if the alternatives meant junky diversification. Any portfolio over 30 stocks probably gives good enough diversification, but there's no point of taking all that tracking error when a total market index costs 3bps. I don't think VTI is concentrated from a market cap perspective, but there is sector concentration and concentration to the higher end of the valuation spectrum that it might be beneficial to diversify. Some international or SCV is probably enough if you believe US sector or valuation concentration is a risk
JSPECO9
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Re: Is the S&P 500 still diversified?

Post by JSPECO9 »

S&P 500 is very diversified.

TSM is even more diversified.

Total World is more diversified.

Don't take investment advice from Marketwatch.
AdrianC
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Re: Is the S&P 500 still diversified?

Post by AdrianC »

20cm wrote: Tue Jun 06, 2023 10:35 am However it's not intuitive to me that equal weight should be less risky than cap weight. Equal weight is effectively a heavily smaller-cap tilted variant of the original index. Knowing just that, we'd expect over the longer term to see equal weight have more volatility and better returns, which is the case. One interesting question would be is there a level of concentration of cap weight where the single company risk (for example finding out that Apple was actually Enron 2.0) that doesn't show up in historical volatility statistics comes into play?
Well, yeah, intuitively, if Apple goes to 0 you lose 0.2% or 7.2% (or maybe 20% for the Berkshire shareholder, gulp!).
I'm not a believer in equal weight, though. Not S&P500 equal weight, anyway.
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tadamsmar
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S&P 500 YTD gains are almost all from 5 tech stock

Post by tadamsmar »

[Merged into existing discussion -- moderator oldcomputerguy]

I thought this was interesting:

https://www.axios.com/2023/06/01/sp500- ... tock-price

The 5 are Microsoft, Alphabet, Nvidia, Amazon, Apple or MANAA for short. (Tesla gets honorable mention)

I know, it's just investment porn, I should avert my eyes, but sometimes I just have to read it.

But I am still faithful to my IPS. (It helps that I hold international and am not very dependent on the S&P 500.)
exodusNH
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by exodusNH »

tadamsmar wrote: Wed Jun 07, 2023 1:40 pm I thought this was interesting:

https://www.axios.com/2023/06/01/sp500- ... tock-price

The 5 are Microsoft, Alphabet, Nvidia, Amazon, Apple or MANAA for short. (Tesla gets honorable mention)

I know, it's just investment porn, I should avert my eyes, but sometimes I just have to read it.

But I am still faithful to my IPS. (It helps that I hold international and am not very dependent on the S&P 500.)
Most positive returns are from a handful of companies. It's not at all unusual.

That's why stock picking doesn't often work -- it's hard to know ahead of time which 5 to pick. Would you have known to choose Barnes and Nobles over Borders? Or Amazon over Barnes and Nobles, back when Amazon just sold books?

Apple almost went bankrupt. They went hat-in-hand to Microsoft for money. Had Blackberry not had their heads buried, Apple may have never found such success with the iPhone.
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David Jay
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by David Jay »

Russell 2000 is up 6.1% YTD. No large cap.
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jebmke
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by jebmke »

exodusNH wrote: Wed Jun 07, 2023 1:53 pm
tadamsmar wrote: Wed Jun 07, 2023 1:40 pm I thought this was interesting:

https://www.axios.com/2023/06/01/sp500- ... tock-price

The 5 are Microsoft, Alphabet, Nvidia, Amazon, Apple or MANAA for short. (Tesla gets honorable mention)

I know, it's just investment porn, I should avert my eyes, but sometimes I just have to read it.

But I am still faithful to my IPS. (It helps that I hold international and am not very dependent on the S&P 500.)
Most positive returns are from a handful of companies. It's not at all unusual.

That's why stock picking doesn't often work -- it's hard to know ahead of time which 5 to pick. Would you have known to choose Barnes and Nobles over Borders? Or Amazon over Barnes and Nobles, back when Amazon just sold books?

Apple almost went bankrupt. They went hat-in-hand to Microsoft for money. Had Blackberry not had their heads buried, Apple may have never found such success with the iPhone.
Also, Alphabet and Amazon are really bundled businesses that just happen to trade under one ticker.
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20cm
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by 20cm »

David Jay wrote: Wed Jun 07, 2023 1:55 pm Russell 2000 is up 6.1% YTD. No large cap.
It's up almost 8% YTD right now after being up over 14% YTD in February and being up 0% YTD last week. Fun index to hold (on for dear life)! :D
rockstar
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by rockstar »

David Jay wrote: Wed Jun 07, 2023 1:55 pm Russell 2000 is up 6.1% YTD. No large cap.
A 1 year treasury pays over 5%. And inflation is at 5%. That’s barely in real territory.
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fetch5482
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by fetch5482 »

I am surprised META is not on that list of 5 given it is still a relatively large holding and has 3-digit percentage points (~110%) returns YTD.

The title of that article is a bit deceptive. It body reads more along the lines of "Top 5 S&P 500 holdings have had much larger returns than S&P 500 as a whole" rather than "Nearly all the gains are coming from top 5 holdings."

The former is not surprising to me at all - those are largest cap, so form the highest % of holdings in ever dollar of S&P500 invested. So naturally during times when market are going up they tend to outperform.
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David Jay
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by David Jay »

rockstar wrote: Wed Jun 07, 2023 2:48 pm
David Jay wrote: Wed Jun 07, 2023 1:55 pm Russell 2000 is up 6.1% YTD. No large cap.
A 1 year treasury pays over 5%. And inflation is at 5%. That’s barely in real territory.
YTD = Year To Date. YTD is 6.1%, annualized that would be about 14%.
It's not an engineering problem - Hersh Shefrin | To get the "risk premium", you really do have to take the risk - nisiprius
rockstar
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by rockstar »

David Jay wrote: Wed Jun 07, 2023 3:02 pm
rockstar wrote: Wed Jun 07, 2023 2:48 pm
David Jay wrote: Wed Jun 07, 2023 1:55 pm Russell 2000 is up 6.1% YTD. No large cap.
A 1 year treasury pays over 5%. And inflation is at 5%. That’s barely in real territory.
YTD = Year To Date. YTD is 6.1%, annualized that would be about 14%.
Makes zero sense to annualize YTD.
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David Jay
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Re: S&P 500 YTD gains are almost all from 5 tech stock

Post by David Jay »

rockstar wrote: Wed Jun 07, 2023 3:11 pm
David Jay wrote: Wed Jun 07, 2023 3:02 pm
rockstar wrote: Wed Jun 07, 2023 2:48 pm
David Jay wrote: Wed Jun 07, 2023 1:55 pm Russell 2000 is up 6.1% YTD. No large cap.
A 1 year treasury pays over 5%. And inflation is at 5%. That’s barely in real territory.
YTD = Year To Date. YTD is 6.1%, annualized that would be about 14%.
Makes zero sense to annualize YTD.
I submit that it makes no sense to compare a treasury bill to stock market YTD performance.
It's not an engineering problem - Hersh Shefrin | To get the "risk premium", you really do have to take the risk - nisiprius
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