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Megacap Tech Stocks Have Gotten Too Big for Nasdaq 100 Again
(Bloomberg) -- Only a year after having their size clipped in the Nasdaq 100 because they got too big, the world’s largest technology companies may face another pruning when the marquee benchmark rebalances this week.
At issue are regulations designed to cap the influence of the biggest members in the gauge — rules that have been put under stress after companies like Apple Inc. and Microsfoft Corp. swelled to unprecedented size. Nasdaq Inc. has already been forced to address the problem once, in July 2023, when it slashed the weightings of seven companies to return them to compliance. But so great has their growth been in the months since, the gauge is once again too top-heavy, potentially requiring another cull.
How Nasdaq deals with the issue is prescribed in index rules that leave room for interpretation. The regulation that mandated 2023’s rebalance was set off by a somewhat byzantine provision that triggers when all the companies making up more than 4.5% of the benchmark, respectively, add up to 48% combined, or more. That happened in 2023 — and then again recently, after Broadcom Inc. surged enough to push it over the 4.5% threshold.
Complicating the matter is the imminence of an annual rebalancing scheduled for the close of trading Friday, a protocol that operates according to less-stringent weighting rules that wouldn’t necessarily require a pruning of the largest members. In any case, a Nasdaq spokesperson said the lopsided weighting will be addressed in the upcoming rebalancing.
At Monday’s close, eight members — also including Nvidia, Amazon.com, Meta Platforms, Tesla and Alphabet — each made up more than 4.5% of the Nasdaq 100, with their total representation sitting near 52%. Nasdaq’s methodology paper suggests that the combined weighting may be trimmed to 40%.
A revision would mean index-tracking funds such as Invesco QQQ Trust (ticker QQQ) must tweak holdings. It’s adding an extra wrinkle to an event where MicroStrategy Inc., Palantir Technologies Inc. and Axon Enterprise Inc. will join the Nasdaq measure, replacing Illumina Inc., Super Micro Computer Inc. and Moderna Inc.
The rejig of the largest constituents is a consequence of the unstoppable rally mostly fueled by optimism over artificial intelligence. The group has advanced 79% on average year-to-date, roughly four times as large as the average stock in the rest of the Nasdaq 100.
“The market seems intent on breaking index rules that have existed for decades and causing providers to rethink how they handle a multi-trillion dollar market cap world,” said Todd Sohn, an ETF strategist at Strategas Securities. “After a summer respite, there has been a reacceleration of leadership from the mega-cap heavyweights.”
The persistent dominance of tech giants has created headaches for all-powerful index providers, forcing some to rethink rules to stay in compliance with longstanding diversification rules established to protect investors from concentrated portfolios.
Earlier this year, FTSE Russell adopted new rules to curb the influence of the largest stocks in its widely followed US growth and value gauges, while S&P Dow Jones Indices retooled its methodology on the capping process in key industry benchmarks.
Nasdaq’s decision to wrap what was once a special rebalance into a regular rebalance highlights again the human factor in passive investing, and the opportunities for specialized hedge funds looking to capitalize on the event.
“Rules are fun, blurring the lines between active and passive,” Sohn said.