The popular tech ETF could see major changes as Apple, Microsoft and Nvidia jockey for position

Joseph Adinolfi

New weights for the S&P Technology Select Sector Index will be determined at Friday’s close

One popular passive exchange-traded fund may soon experience a major shakeout, with potentially serious consequences for technology stocks that have driven much of the market’s rally in 2024.

Investors will be closely watching Apple Inc.’s stock struggle. (AAPL), Microsoft Corp. (MSFT) and Nvidia Corp. (NVDA) for the position of the largest publicly traded U.S. company at the time of publication of the S&P Technology Select Sector Index lock weighting for the latest quarterly rebalancing at the close on Friday.

If Apple takes the top spot, as it did on Thursday, it could force ETFs like the $67 billion Technology Select Sector SPDR ETF XLK that track the index to sell some of their Microsoft holdings and buy more of Apple. claims. James Seyffart, ETF analyst at Bloomberg Intelligence.

And if Nvidia ends Friday’s session as the second-largest U.S. company, the fund could be forced to buy a large portion of its shares as its share in the index increases significantly. At the same time, he would be forced to sell a significant part of his shares in Microsoft or Apple.

In a report published earlier this week, ETF analysts at Bloomberg Intelligence estimated that if Nvidia and Apple swapped positions as the second- and third-largest companies, it would force the ETF to dump more than $11 billion worth of Apple shares and buy almost $10 billion worth of Nvidia dollars.

Of course, there’s also the possibility that the weights will remain roughly the same if Microsoft overtakes Apple again and Nvidia stays in third place.

By Thursday’s close, all three companies were nearly neck and neck, analysts said, adding a level of excitement to a typically mundane process. Before the market opens on Friday, it’s likely that any of the three companies could reign supreme as the largest publicly traded company comes to an end.

According to Dow Jones Market Data, Microsoft’s market capitalization as of Thursday’s close was $3.282 trillion, while Apple’s current market capitalization was $3.285 trillion. In third place, Nvidia’s total was $3.19 trillion.

“This will all come to a head,” Seyffart told MarketWatch on a Wednesday telephone interview.

Adding to the complexity is that the final market capitalization numbers used in the rebalancing process may differ slightly from those reported by financial media organizations. The S&P Dow Jones Indices use a measure called float-adjusted market capitalization to determine how much of a company’s outstanding shares are included in determining rebalancing weights.

The document published by the company shows that it does not cover shares held by long-term strategic shareholders, a category that includes management staff, asset managers and insurance companies sitting on management boards, as well as shares held by other listed companies.

A representative from S&P Dow Jones did not respond when asked to clarify the exact number of shares used in their methodology. They previously claimed that the company would not comment on market movements that could affect the restoration of balance.

Nvidia saw a potential windfall

If Nvidia manages to finish second, the chip designer’s shares could increase, Seyffart said.

In such a scenario, Nvidia’s share of the index – and therefore the ETF – would increase to north of 20% from its current just under 6%. Apple stock currently has a 21% weighting in the SPDR ETF, according to SPDR data. The share of Microsoft, which is currently the fund’s largest holding, is over 22.5%.

    Company Name  Weighting in Technology Select Sector SPDR ETF 
   Microsoft                                               22.55% 
   Apple                                                   21.02% 
   Nvidia                                                   5.86% 
   Source:       State Street Global Advisors

Matthew Bartolini, head of SPDR Americas research at State Street Global, cautioned in an interview with MarketWatch that investors should not get too involved in the rebalancing process.

“We will know the final result only on June 14,” he said.

State Street owns the SPDR family of ETFs.

The final weights for balancing will be determined at the close on Friday, but the balancing itself will not take effect until June 21. All rebalancing transactions will take place that day, Bartolini said.

The potential shocks come at a time when the passive ETF is dramatically losing another widely cited sector benchmark: the S&P 500 information technology index. The sector index, which is not directly tracked by any mutual funds, is up more than 28.6% this year compared with FactSet data. with a 17.8% gain for the SPDR ETF.

The biggest contributor to this gap was Nvidia’s meteoric rise. Shares of the chip designer are up more than 161% in 2024 as of Thursday’s close, compared with 17.4% for Microsoft and 11.3% for Apple, according to FactSet data. Its explosive growth has helped fuel concerns that indexes like the S&P 500 have become too reliant on a few stocks during their recent record highs.

As economic growth intensified, Nvidia passed trillion-dollar market capitalization milestones in a matter of months, something that took Microsoft and Apple years to achieve, according to Dow Jones Market Data. Since ChatGPT went public on November 30, 2022, Nvidia shares have surged over 660%.

See: Tech Stocks Lead Once Again in 2024 Why These ETFs Tell a Different Story.

Lags in the performance of the ETF-tracked index and sector index are the result of regulations that have existed in the U.S. for over 80 years and predate the creation of the first ETF by decades. These rules place limits on the degree of concentration of indexes when they are used as a benchmark for investment funds to track.

According to the S&P Dow Jones Indices methodology, which is based on these regulations, the shares of individual shares are limited to 24%, while the total shares of companies with a share of 4.8% or more in the index cannot exceed 50%.

If the combined weights of the largest holdings exceed the limit specified in this second rule, then the weights of the smallest holdings in that group are systematically reduced until the limit is reached. The surplus is then distributed to other smaller companies included in the index.

Because the S&P 500 Information Technology Index is not an investable index, it may reflect the actual weighting of companies in the sector.

Anticipatory risks

Once Friday’s rebalance is set, hedge funds and sophisticated arbitrageurs may rush to buy or sell shares of affected companies in a process known as “front running.”

This could adversely affect the share price as the ETF prepares to make corrections.

Last year, a trio of researchers published a paper that aimed to show that arbitrageurs routinely rebalance indexes first, causing price distortions that allow them to make profits at the expense of ETF investors.

But even if Friday’s session causes a big bump for ETFs, Bartolini said he doesn’t expect the rebalancing itself to have a big impact on the market when the changes finally go into effect on June 21.

State Street and its investors have extensive experience in carefully managing previous major balance shifts, such as when the S&P Dow Jones Indices formed the Communications Services sector in 2018.

“It was a very effective rebalance in 2018 in terms of market impact, cost effectiveness and tracking errors,” Bartolini said in a call with MarketWatch.

-Joseph Adinolfi

This content was created by MarketWatch, operated by Dow Jones & Co. MarketWatch is published independently of Dow Jones Newswires and The Wall Street Journal.

(END) Dow Jones Newswires

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