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Key Takeaways
- The Technology Select Sector SPDR Fund (XLK) will likely be forced to buy billions of dollars worth of Nvidia stock—and dump a similar amount of Apple—when it rebalances this week.
- Nvidia’s weight in the ETF is expected to nearly quadruple after its float-adjusted market cap exceeded Apple’s at the end of last week.
- Rules governing fund diversification have forced XLK to be massively underweight Nvidia as the company’s value has more than doubled this year.
One of America’s largest technology-focused exchange-traded funds is expected to get a massive makeover this week.
The Technology Select Sector SPDR Fund (XLK) will likely be forced to buy billions of dollars worth of Nvidia (NVDA) stock, while drastically cutting back its Apple (AAPL) exposure, when it undergoes quarterly rebalancing on Friday, a byproduct of both the chip giant’s meteoric rise this year and arcane fund diversification rules.
“The Massive Rebalance is Happening (I’m pretty sure),” said James Seyffart, an ETF Research Analyst for Bloomberg Intelligence in an X post on Friday. “Back of napkin math means $XLK will have to sell about $12.6 billion worth of $AAPL and buy about $10.9 billion worth of $NVDA at current prices. This trade will occur on June 21. Need confirmation from S&P/SPDR though.”
Matthew Bartolini, head of SPDR America’s Research at State Street, which manages the XLK, concurred with Seyffart’s math in comments to CNBC. S&P Global declined to comment on potential index changes.
What’s Going On With The XLK?
XLK tracks the Technology Select Sector Index, which is composed of the stocks of the S&P 500 companies operating in the Information Technology sector. There are 65 in total, including America’s three most valuable companies: Apple, Microsoft (MSFT), and Nvidia.
The fund is theoretically market-capitalization weighted, meaning the higher a company’s market value the more influence it has over the fund’s value and share price. But the reality is more complex. Due to diversification rules, no one stock can make up more than 25% of the fund. S&P Global, the index manager, caps each stock’s weight at 23% to give itself a buffer.
How Nvidia’s Meteoric Rise Upstaged Apple
For a long time, Apple and Microsoft were the only companies in the index to come close to that 23% cut-off. But with Nvidia’s historic gains over the last year and a half, there are now three companies in the index worth more than $3 trillion each. Together, they make up more than 60% of the index.
At first glance, Nvidia’s rise solves the weighting problem. Its weight has increased and thus reduced the weight of Apple and Microsoft to less than 23% each.
But, there’s a catch: “The sum of the companies with weights greater than 4.8% cannot exceed 50% of the total index weight.”
That is why Apple, Microsoft, and Nvidia have such drastically different weights in the index.
If all the companies with weights greater than 4.8% cumulatively exceed 50% of the index, they are ranked by market cap, and the smallest of them have their weights cut to 4.5% at most.
The S&P index is rebalanced quarterly, on the third Friday of March, June, September, and December, based on the market caps of each stock at the end of the prior week.
With Nvidia’s free float-adjusted market cap sneaking past Apple’s after a close race at the end of trading on Friday, the index now needs to cut its exposure to the Cupertino-based tech giant by almost 80%.
“Any ETFs tracking this index will have to purchase NVDA and sell AAPL to account for the capping difference,” said George Smith, Portfolio Strategist for LPL Financial on Friday.
What Does This Means For The Stocks
The stakes are high for owners of each stock. While XLK is a big fund on its own, it may not be the only one that needs to course-correct after the index rebalancing. Even if it is, changes to just its portfolio could have major implications for the largest tech stocks.
Any fund selling or buying billions of dollars of one stock over a week is bound to put pressure on the stock’s price. However, the boost Nvidia’s stock could get from rebalancing may be diminished by last week’s stock split. Now that there are ten times as many Nvidia shares on the market, buyers and sellers can demand more precision in the price at which their trades are executed.
In sharp contrast, a sudden gush of Apple shares that XLK offloads may cause a demand-supply mismatch, temporarily causing weakness in its stock price.