2 Problems Tesla Creates For The S&P 500

One of the catalysts driving the wild ride for Tesla Inc TSLA in 2020 has been its potential inclusion in the S&P 500 after first becoming eligible following a profitable second quarter. While Tesla’s addition to the S&P 500 could trigger a wave of buying as funds and money managers rebalance their portfolios, adding Tesla to the popular index could also create at least two problems for SPDR S&P 500 ETF Trust SPY investors.

DataTrek Research co-founder Nicholas Colas said both problems would be caused by Tesla’s ballooning market cap, which currently sits at $417 billion.

Unwanted Volatility: The first problem is that Tesla would immediately have roughly a 1.5% weighting in the S&P 500, further concentrating the index’s weighting in just a handful of tech names. In addition, Tesla’s trading action in the last year alone highlights just how much more volatile the stock is than any of the other mega-cap stocks with the highest S&P 500 weightings.

"This would make the 500 more volatile over time, especially if/when concerns about a bubble in the stock prove true," Colas said of Tesla. "It is barely profitable, and its black ink comes from the sale of government mandated credits rather than factory operating margin."

Top-Heavy Sectors: The second problem has to do with a general trend in the S&P 500 in which single stocks are dominating entire sectors. Colas said Tesla would almost certainly be added to the Industrial sector, presumably accounting for an initial weighting of around 20% of the sector.

At that point, five different sectors could potentially have one single stock representing greater than 20% weighting:

• Tesla at 20% of Industrials
• Apple, Inc. AAPL at 25% of Technology.
• Amazon.com, Inc. AMZN at 25% of Consumer Discretionary.
• Chevron Corporation CVX at 23% of Energy.
• Facebook, Inc. FB at 24% of Communication Services.

Colas said including Tesla in the S&P 500 would create a major headache for the selection committee in terms of the overall volatility and diversification of the index, as well as the volatility and diversification of individual sectors.

Benzinga’s Take: The S&P selection committee may be dragging its heels on including Tesla on hopes that the stock’s valuation will come back to earth at some point, potentially reducing the risk and volatility associated with adding the stock to the index. The committee can even justify the delay due to the concerns Colas pointed out about the profitability of Tesla’s core auto business without the sale of regulatory credits.

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