Friday, January 28, 2022

Invest in an Equal-Weight ETF in these Turbulent Times.

The S&P 500 index is market-capitalization-weighted. The weighting by market cap means the companies with the largest market capitalization (Market capitalization = Number of shares outstanding x Share Price) get the highest weight. Last year, this method for calculating the index made the five largest companies by market cap account for 23% of the index. That is just 5 out of the 500 companies accounting for about a quarter of the market capitalization. These five companies were: Apple, Microsoft, Alphabet (Google), Amazon, and Facebook (Meta). When the share price of these companies starts underperforming, the market takes a huge tumble. We can see that happening now. The S&P 500 index (VOO) is down about 9.72% (pre-market on January 28), while the S&P 500 equal-weighted ETF (RSP) is down 7.48% (See Exhibit 1: Invesco Equal-Weight ETF Beats Vanguard S&P 500 Market-Cap Weighted ETF). That is a difference in the performance of 224 basis points. In essence, the equal-weight ETF outperformed the market-cap ETF. The dividend yield is about the same for both ETFs. The Invesco Equal-Weight ETF charges a higher expense ratio than the Vanguard S&P 500 ETF. Invesco charges 20 basis points (bps) or 0.2%, while the Vanguard S&P 500 ETF (VOO) charges three bps or 0.03%. Invesco charges 7x more than the Vanguard ETF. Even after deducting the extra expense of investing in the Invesco ETF, it comes ahead in performance by over 200 bps.  

The era of big-tech is coming to an end due to more regulation and their size inhibiting growth. At least for now, Apple seems to be bucking the trend after reporting blockbuster results yesterday. Interest rates are also rising, putting pressure on valuation because future earnings will be discounted at a higher interest rate. It may be good to have a position in the Invesco Equal-Weight ETF (RSP) during these times. 

     Exhibit 1: Invesco Equal-Weight ETF Beats Vanguard S&P 500 Market-Cap Weighted ETF
(Source: Seeking Alpha)
Also, there may be other equal-weight ETFs in the market. I am aware of Invesco's ETF, so I have invested in it. I am not endorsing the Invesco ETF. 

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