ETFs
Why a $70 Billion Fund Will Likely Load Up on Nvidia Stock and Ditch Apple This Week
Key takeaways
- The Selected Technology Sector SPDR Fund (XLK) will likely be forced to buy billions of dollars’ worth of Nvidia stock — and dump a similar amount of Apple — in this week’s rebalancing.
- Nvidia’s weight in the ETF is expected to nearly quadruple after its float-adjusted market capitalization surpassed Apple’s late last week.
- Rules governing fund diversification have forced XLK to massively underweight Nvidia, with the company’s value more than doubling this year.
One of the largest technology-focused exchange-traded funds in the United States is set to undergo a massive transformation this week.
The Selected Technology Sector SPDR Fund (XLK) will likely be forced to buy Nvidia products for billions of dollars (NVDA), while drastically reducing its Apple stock (AAPL), when it undergoes a quarterly rebalancing on Friday, a byproduct of both the chip giant’s meteoric rise this year and arcane fund diversification rules.
“The massive rebalancing is happening (I’m pretty sure),” James Seyffart, an ETF research analyst for Bloomberg Intelligence, said in an article on Friday. “The basic math means $XLK will have to sell approximately $12.6 billion of $AAPL and purchase approximately $10.9 billion of $NVDA at current prices. This transaction will take place on June 21. However, confirmation from S&P/SPDR is required.
Matthew Bartolini, head of SPDR America research at State Street, which runs XLK, agreed with Seyffart’s calculations in comments to CNBC. S&P Global declined to comment on potential changes to the index.
What’s going on with the XLK?
XLK tracks the Technology Select Sector Index, which is comprised of stocks of S&P 500 companies operating in the information technology sector. There are 65 in total, including the three most valuable American companies: Apple, Microsoft (MSFT), and Nvidia.
The fund is theoretically market capitalization weighted, meaning that the higher a company’s market value, the more influence it has on the fund’s value and stock price. But the reality is more complex. Due to diversification rules, no single stock can represent more than 25% of the fund. S&P Global, the index manager, caps each stock’s weighting at 23% to give itself a margin of safety.
How Nvidia’s Meteoric Rise outperformed Apple
For a long time, Apple and Microsoft were the only companies in the index to come close to this 23% threshold. But with Nvidia’s historic gains over the past year and a half, the index now has three companies each worth more than $3 trillion. Together, they represent more than 60% of the index.
At first glance, Nvidia’s rise solves the weighting problem. Its weight increased and thus reduced the weight of Apple and Microsoft to less than 23% each.
But there is a catch: “The sum of companies with a weighting greater than 4.8% cannot exceed 50% of the total weighting of the index. »
This is why Apple, Microsoft, and Nvidia have such drastically different weightings in the index.
If all companies with a weighting greater than 4.8% cumulatively exceed 50% of the index, they are ranked by market capitalization and the smallest of them have their weighting reduced to a maximum of 4.5%.
The S&P Index is rebalanced quarterly, on the third Friday of March, June, September and December, based on each stock’s market capitalizations at the end of the previous week.
With Nvidia free float-adjusted market capitalization surpassing that of Apple after a tight race in late trading on Friday, the index must now reduce its exposure to the Cupertino-based tech giant by almost 80%.
“All ETFs tracking this index will need to buy NVDA and sell AAPL to account for the cap difference,” George Smith, portfolio strategist for LPL Financial, said Friday.
What this means for stocks
The stakes are high for the owners of every stock. While XLK is an important fund on its own, it may not be the only one that needs to course correct after the index rebalance. Even if that were the case, changes to just its portfolio could have major implications for the biggest tech stocks.
Any fund selling or buying billions of dollars of a stock over a week is sure to put pressure on the stock price. However, the boost Nvidia stock could get from the rebalancing may be diminished by last week’s report. stock split. Now that there are ten times more Nvidia shares on the market, buyers and sellers can require more precision in the price at which their transactions are executed.
In contrast, a sudden surge in Apple shares that XLK unloads could cause an imbalance between supply and demand, temporarily leading to weakness in its stock price.