It could get ugly.Īlso remember that S&P 500 trackers, by definition, ignore valuations and fundamentals. Investors will realize they’re not diversified, after all. In a market pullback, investors will all be selling the same basket of stocks. Investors did the same thing to commodities a decade ago and look what happened there. Investors have neglected company fundamentals, and instead poured billions into stocks as a whole. That’s because every investor owns the same basket of stocks. While you may believe that a 500-stock index would provide strong diversification benefits, the chances are, you’re not as diversified as you think you are. The composition of the index means that investors have the highest exposure to a sector that offers minimal upside right now. At the peak of the dot-com bubble, the tech sector had a weighting of almost 35%. Adding to the weights of the FAANGs in the top 25 holdings are stocks such as Microsoft (2.9%), Intel (0.9%), and Cisco Systems (0.8%).Īll up, the technology sector amounts to close to a quarter of the index. Five of the top ten holdings are tech stocks. The index is also heavily skewed to the technology sector. In total, the five FAANG companies make up around 11% of the index alone. Amazon and Facebook combine for another 4%. While you would think that a 500-stock index would be well diversified, a closer analysis of the S&P 500 reveals an alarming picture.Īpple has a near 4% weight within the index. Over the course of 2017, the index weight of these five stocks has increased from under 9%, to almost 11%. These valuations leave little margin for error.Įven worse, the FAANGs make up an increasingly large part of the index. The FAANGs are priced for perfection right now. Facebook and Google trade at P/E ratios of around 35. These stocks have rallied hard in 2017, and several now trade at insane valuations. It’s the eye-watering valuations of some of the largest stocks within the index. Yet it’s not just the overall valuation of the index that looks too high. This rise has pushed the market’s valuation up to dangerously high levels. With record low levels of volatility, the index has returned nearly 20% this year. The S&P 500 has risen in a straight line in 2017.
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