June 2024: Running Money: SPY –> Long Live The King

If you have been following the performance of the SPY (S&P 500) over the past 5, 10 and 15 years then you are aware a small number of the biggest tech stocks have been driving the market. Said another way, the largest 7-10 stocks have been responsible for most of the performance of the S&P 500 by a wide margin for some time now.

The current 2024 year-to-date period is another example –> the trend continues: the top 7 stocks (Magnificent 7) are up 30%, the other 493 stocks (in the SPY) are only up 6% thought June 6, 2024. (The Magnificent 7 stocks – Apple, Amazon, Alphabet, Meta Platforms, Microsoft, Nvidia, and Tesla). Additional details below.

Current SPY observations:

-The largest concentration of the top 5 names ever (Approaching 30%)

-The fastest time period ever for a stock to grow from $2T to $3Trillion in market cap (NVDA)

-The highest ever sector exposure to Technology in the broad market

-Recent all-time-highs for the US Equity indices (SPY and QQQ Nasdaq 100)

-Direct overlap between the SPY and QQQ (8 of 10 top holdings are the same)

What does it mean?

The SPY is absolutely awesome. It is the “King of the Hill” in terms of performance and investor exposure (size). As a diversified, low cost, passive investment vehicle, it has served its investors incredibly well…Long Live the King.

If you own SPY, you own a lot of tech. So be mindful about your portfolio’s exposure to other popular ETFs like the QQQ. If you also own individual stocks in the top 10 of these indices, be mindful of your portfolio risk and how you manage it.

The top-heavy tech exposure also introduces a higher than average risk measure for the S&P 500…keep it simple: higher concentration equals higher volatility.

What US Equity Large Cap alternatives are there to the S&P 500?

First and foremost, all of WLA’s client accounts include positions in SPY. The following are some basic examples of how I consider managing US Equity Large Cap in the portfolios WLA manages.

1. Do nothing. The S&P 500 is “The King” after all. Long-term investors have endured similar top-heavy / all-time-high moments in the past. I’m not selling SPY…just sharing some perspective on how to run money and gain some beneficial diversification.

2. Equal Weight S&P 500 (Ticker RSP). You can use an equal weight S&P 500 index…the theory with RSP is that it will be down less in a correction, but still grind higher in a bull market…at the expense of underperforming the market cap weighted S&P 500 index. Currently, WLA has no positions in RSP.

3. Large Cap Value (Ticker IWX). Large Cap Value has been lower return vs the S&P 500 and in theory may offer reduced downside risk and lower correlation vs. SPY. Value stocks can be associated with lower valuations, good balance sheets, cash flow and dividends, etc. This thesis is not perfect…value stocks have their own non-tech economic risk exposures (financials, healthcare, energy, industrials, consumer durables). Long-term, US Equity Large Cap Value is a good asset to own and good diversification from SPY – just don’t expect a defensive miracle during a correction. Currently, WLA has positions in IWX.

4. Active management. With a 25-year career in the active management space behind me, there are of plenty of US equity strategies in the marketplace that offer constructive diversification from the S&P 500. Consider looking for an actively managed mutual fund with an appropriate investment style and portfolio construction limits.

5. Rebalance. If you have tax deferred accounts (401k, IRA, Roth), there are no tax consequences to rebalance your best performing holdings. For taxable accounts, you must consider your long and short-term tax exposures.

6. Cash and Dollar Cost Average. Cash continues to pay about 5% risk free…dollar cost averaging into a basket of US Equity ETFs is a great way to manage risk. Earn a nice risk-free income from your cash and automate a DCA strategy and you’ll rest easy.

Think about my remarks another way…the bottom 493 stocks in the S&P 500 are posting a YTD average “single digit” return while risk-free cash is paying 5%. Do you want to own more cash at 5% yield risk-free, more of the bottom 493 or more of the Mag7?