Although the indexing strategies behind many ETFs have been labeled by some as “set it and forget it,” they are hardly that. Some investors, in fact, aren’t aware that these indexes require occasional maintenance. And the big upcoming changes to one of the globe’s most recognizable stock market yardsticks is proof.
The Nasdaq-100 is undergoing a dramatic change known as a “special rebalance” that will reduce the lopsided impact of the mega-cap stocks that have come to dominate its performance.
The shift in the index has been prompted by the sizzling performance of top Nasdaq-100 stocks like Apple, Microsoft, Nvidia, Meta Platforms, Tesla and Alphabet and their Class A and Class C shares. These stocks together account for a whopping 55% of the Nasdaq-100’s overall equity exposure. Thus they’ve been dubbed the "magnificent seven" for their outsize influence on the index’s performance (and volatility).
While the rebalanced index will still own positions in these same tech giants, the amounts committed to them will be pared down. The exact changes have yet to be announced, but the final adjustments will become effective on July 24 before the market opens.
A special rebalancing could be required for just about any index, and is typically triggered after the composition of the index runs afoul of the rules governing it. Over the past 25 years, the Nasdaq-100 has undergone two special rebalancing events, once in 1998 and again 2011.
Other market-cap-weighted indexes, including the S&P 500, have experienced similar situations where a few stocks dominate them. The S&P 500 is notably different, though, because it includes stocks that aren’t on the Nasdaq exchange, plus it holds a more diversified basket of stocks across 11 different industry sectors. Nevertheless, like the Nasdaq-100, the S&P 500 has an equity exposure dominated by technology, which accounts for almost 30% of its overall weighting.
“When you look at the evolution of both indexes, they appear to be moving in the direction of the Nasdaq-100,” said David Kreinces, CIO of ETF Portfolio Management in Westlake Village, Calif. “Tech is growing the fastest, and the Nasdaq-100 has larger exposure to this sector compared to the S&P 500. The Nasdaq-100 is the next generation S&P 500.”
Funds linked to the Nasdaq-100 have amassed nearly $300 billion in global assets, according to Morningstar. The Invesco QQQ Trust (QQQ) is the fifth largest ETF, with around $210 billion in assets.
Although the Nasdaq-100 weights companies by market capitalization, it’s still a concentrated index—it leaves out stocks in many key sectors like energy, financial and utilities. Plus, it omits stocks from competing venues like the New York Stock Exchange. That means leading tech companies like Oracle, Salesforce, SAP and Taiwan Semiconductor Manufacturing aren’t in it.
Even investors who don’t own financial instruments or ETFs linked to the Nasdaq-100 will be affected by the upcoming rebalance.
Billions of dollars’ worth of stock in top Nasdaq-100 companies will be sold and repositioned. Higher market volatility may ensue. The result will be a slightly different look for one of the globe’s most famous equity yardsticks.