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Portfolio > Portfolio Construction

What Happens When Tesla Joins the S&P 500?

By Bernice Napach

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Tesla founder Elon Musk speaking at an event Elon Musk, chairman and CEO of Tesla Motors. (Photo: David Paul Morris/Bloomberg)

Investors and asset managers expected unusual volatility in the stock market on Friday, especially near the close, in preparation for Tesla’s addition to the S&P 500 early Monday. 

All the S&P 500 index mutual funds and ETFs were set to rush in and buy Tesla (TSLA), which will be the largest stock by market capitalization ever to be added to the index.

At $645 per share on Thursday, Tesla was the seventh largest stock by market cap after Apple, Microsoft, Amazon, Facebook and Alphabet’s two share classes, placing just above Berkshire Hathaway B shares (BRK-B).

“This is the largest issue we have ever put into the index and it will disrupt the market the most,” said Howard Silverblatt, senior index analyst, product management, at S&P Dow Jones Indices, which constructs the S&P 500 index, on Thursday.

See: Hungry Index Funds Cram Tesla Into S&P 500 at Record Price

On Friday, Tesla’s shares closed at $695. This represents a gain of 731% so far this year, reports Bloomberg, which notes that the stock has soared 70% since its inclusion in the S&P was announced in November.

The jump in the share price on Friday pushed Tesla CEO Elon Musk’s net worth up some $9 billion to $167.3 billion, according to the Bloomberg Billionaires Index. Musk’s personal fortune has risen $139.7 billion in 2020.

Index managers were expected to spend approximately $80 billion to buy Tesla shares that day — an “an enormous amount” — and sell shares of other stocks to finance the purchase, explained Silverblatt.

Moreover, it was anticipated that they would be buying shares from hedge funds, other investors and traders who have stockpiled Tesla shares and were looking to get the highest price they can.

“Trading on Friday, Dec. 18 will be extremely hectic but very professional,” said Silverblatt on Thursday.

Both the index buyers and potential Tesla share sellers have had ample notice of the Tesla addition — a full month instead of the usual five days that S&P Dow Jones usually provides when changing the index — but the change will take place all at once, not in two or more stages as some market professionals had preferred.

“Since we’ve given a month’s notice, everyone has had time to plan out their strategies,” Silverblatt said.

What’s Next?

Beyond Friday, he expects Tesla’s addition to the S&P 500 will add volatility to the index, for a couple of reasons: The stock has been very volatile this year throughout its sharp ascent from roughly $84 a share at the start of the year to over $600, and its market weighting in the index, about 1.5% based on Thursday’s price, will be higher than all but six other stocks in the index.

Tesla’s forward price/earnings multiple, near 150 and several times higher than the forward P/Es for other heavyweights in the index on Thursday — the forward P/Es of Apple, Google and Microsoft were near 32, for example — will also increase the P/E of the S&P 500.

A big move in Tesla stock could have an outsize impact on the performance of the S&P 500.

Had Tesla been a constituent of the S&P 500 for all of 2020, it would have tilted the total index return by 2%, according to Goldman Sachs strategists led by David Kostin.

Goldman’s derivatives research analysts, however, don’t expect Tesla’s inclusion in the index will have more than a “small mechanical impact” on volatility in the S&P 500 and and the VIX, the volatility index based on S&P 500 options.

See: Tesla on Track to Join S&P 500 

Bernice Napach

@Think_Napach

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