Investor, know your indices…
Troy, MI February 13, 2015 – “I recently worked out a spreadsheet to deconstruct how the S&P did in 2014; the results are startling: 36 stocks out of 500 provided over 55% of the total return,” says Leon LaBrecque, JD, CPA, CFP, CFA, the Chief Strategist and founder of LJPR, a firm managing $691 million in assets*.
“Knowing what the S&P 500 is made up of is important. Essentially, it is an index of 500 stocks selected by the S&P US Index Committee. It's not – contrary to popular belief – the 500 biggest US stocks. The S&P 500 is based on market capitalization, so a large company occupies a much larger portion.
Apple, for example, is one stock out of 500, or 0.2% of the total number of stocks, but it is 3.25% of the weight of the index. Apple's return has a very big effect on the overall S&P return,” says LaBrecque. “WPX Energy is another stock in the S&P 500, but makes up only 0.0058% of the Index. The bigger the company, the more it affects the index and, subsequently, how it performs.
Southwest Airlines was the best performing stock in the S&P 500 last year, but it’s only 0.11% of weight of the S&P, so its 126% return only added .73% to the S&P's total return.” Now for the deconstruction: The top 36 stocks in the S&P 500 provided over 55% of the total return of the S&P for 2014. The top 5 stocks (Apple, Microsoft, Berkshire Hathaway, Intel and Wells Fargo) contributed almost 20% of the total return of the index.
Apple by itself contributed 8% of the total index return for 2014, while Exxon contributed a negative 1.17%. Apple contributed almost a third of the total amount from all technology stocks. 35% of the stocks made all of the return for the year. Real estate is only about 2% of the S&P 500, but provided 4.25% of the total return. Energy was an obvious drag.
How many stocks do you need to own?
“What's the moral of the story? We all know that diversification is key, but this review should be enlightening,” says LaBrecque. “You only needed 35% of the S&P 500 to get all of your return, but which 35%? It reminds me of a story attributed to John Maynard Keynes, who, when asked how many stocks you needed to own, said ‘One…The one that makes the most money.’ When asked, ‘How do I find that one?’ Keynes' famous response was, ‘Wish I knew!’
In other words, for 2014, you may have loved Apple, but you were really happy with Southwest Airlines (+126.3%). You were probably unhappy with Transocean (-59.9%); however, if you owned the whole basket, you owned them all. It's the concept of diversification: have parts of the whole world, and enough to make sure you own the winners.”
Leon C. LaBrecque is the managing partner and founder of LJPR, LLC, an independent wealth management firm located in Troy, MI that manages $691 million in assets (as of 12/31/2014). Leon is a practicing attorney, CPA, CFP® and CFA that has specialized in servicing individuals, families, and small businesses in the areas of financial, estate, and tax planning for over 32 years.
LaBrecque’s extensive career includes previous work at Arthur Andersen, Plante Moran, and as the Department Chair of Finance and Economics at Walsh College where he created the Master of Science in Finance program. He has also authored several proprietary retirement planning programs for CalPERS, the states of Montana, and Washington, and corporate clients including General Motors, Ford Motor Company, Lucent, and AT&T, among others. LaBrecque’s specialties include investment management for foundations and non-profit organizations, financial planning for automotive employees and retirees, and retirement planning for police officers and firefighters. Leon LaBrecque’s direct e-mail is leon.labrecque@ljpr.com.
