The S&P 500 is a general stock market index that measures the performance of 500 companies in the U.S. stock exchange. The S&P 500 index is calculated using two different methods: the Market Capitalization Weighting Method and the Equal Weighting Method.
The Market Capitalization Weighting Method produces the S&P 500 returns that we are most familiar with – the publicized returns that we often see from most major news outlets. This method calculates its returns by having each company weighted proportionally to its market capitalization. The market capitalization, or the value of the company, is accomplished by multiplying the number of outstanding shares by the current market price of one share ... resulting in higher-capitalization (larger) companies having a greater impact on the index’s performance than lower-cap (smaller) companies.
Alternatively, each company in the index has an equal weight regardless of its market capitalization when utilizing the Equal Weighting Method (100% / 500 companies = 0.2% each). This results in all companies within the S&P 500 contributing equally to the S&P 500’s returns.
As of October 4, the S&P 500 (Market Capitalization Weighting) had a year-to-date return of +11.73% as compared to the S&P 500 (Equal Weighting) of (-)2.16% (see chart below)... suggesting that larger companies within the S&P 500 have significantly outperformed smaller & mid-sized companies this year. While not uncommon, the significant difference in these returns necessitates further interpretation.
chart generated by https://ycharts.com/
As seen in the above chart, most S&P 500 companies were moving in unison throughout the 1st quarter of 2023 before the largest companies began to diverge. Further analysis shows that nine of the top ten largest S&P 500 companies dramatically outperformed the smaller 490 companies.
For example, as of October 4th, 2023, the top 10 stocks accounted for 31.3244% of the S&P 500’s total returns when utilizing the Market Capitalization Weighting Method– whereas they made up only 2% when utilizing the Equal Weighting Method.1 Of those ten stocks, United Health Group (UNH) had a year-to-date return of (-)2.57% and Berkshire Hathaway (BRK.B) had a return of (+)11.26%. The other eight stocks accounted for returns of between (+)33.91% and (+)201.5%2.
As of October 5, the top 10 stocks in the S&P 500 by index weight were:
information courtesy of https://www.slickcharts.com/sp500
# Company, Symbol, Weight
When returns are somewhat similar for both the weighted and unweighted indices, the S&P 500 Market Capitalization Weighting Method may be used as a reliable indicator of annual performance. However, when there is a major divergence between the two methods as there is this year, it indicates that there can be more to the story.
This year’s story suggests that a very large number of companies in the S&P 500 have significantly underperformed the (-)2.16% annual Equal Weighting Method return to garner a drop in the average return from +11.73% to (-)2.16%. This appears to be especially true when considering that only nine companies (making up 30%+ of the index) significantly outperformed (-)2.16%.
As always, if you have any questions please feel welcome to contact any member of our team.
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