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Since 1998 the S&P 500 EWI has been consistently overweight in certain sectors, such as Utilities and Consumer Discretionary, and underweight in certain sectors, such as Health Care and Telecommunication Services, relative to the S&P 500. However, for other sectors the situation has varied considerably over time. For instance, the S&P 500 EWI was overweight Industrials by at least two percentage points from 1998 through 2002, and often by as many as five percentage points during that time, but is now actually underweight in that sector versus the S&P 500. In fact, even for sectors where the S&P 500 EWI has been consistently overweight or underweight, the difference in concentration between the two indices has altered significantly. For instance, while the S&P 500 EWI has been overweight in Materials since 1998, it had been overweight by over eight percent in 1999 but is now only overweight by two percent.
More important than the differences in sector weights between the two indices is the variance of the sector weights themselves. As can be seen in the exhibits above, the sector weights of the S&P 500 EWI have changed far less than those of the S&P 500. This is unsurprising since hte sector weights of the S&P 500 will vary based both on the number of stocks in each sector in the index as well as the performance of each sector over time, whereas for the S&P 500 EWI it will only vary due to the number of stocks in each sector. Therefore, when a certain sector underperforms or outperforms the market by a large percentage, the sector weights of the S&P 500 will adjust relatively quickly, whereas those for the S&P 500 EWI will not, due to the quarterly rebalancing of the index back to equal weights. The largest change in the relative sector weights of the two indices has been in the Information Technology (IT) sector. During the Internet bubble in the late 1990s the S&P 500 EWI went from being underweight in the sector by only three percent at the start of 1998 to being underweight by close to 20 percent in August 2000. This can be attributed almost entirely to the change in the sector weight of the S&P 500 during this time. While the IT sector weight of the S&P 500 EWI did increase from 10 percent to 15 percent, that of the S&P 500 increased from 13 percent to 33 percent over the same time period.
CRITICISM OF EQUAL WEIGHTED INDICES
Turnover
Since the launch of the S&P 500 EWI, two main concerns have been expressed, primarily from the perspective of investment products based on the index. These are turnover and capacity constraints.
Admittedly, the S&P 500 EWI has higher market capitalization turnover than the S&P 500, due to the rebalancing of the index on a quarterly basis to equal weights. Since the introduction of the index in 2002, average annual turnover for the S&P 500 EWI has been over five times that of the S&P 500 (22.09% and 4.01% respectively). However, the S&P 500 has a very low turnover relative to most indices. The S&P 500 EWI has turnover only 60% greater than that of the S&P MidCap 400 and S&P SmallCap 600 (13.65% and 13.93% respectively) and is in line with other alternatively weighted indices which generally have turnover in the 15% - 30% range. Thus, while turnover for the S&P 500 EWI is somewhat larger than other indices, it is within a reasonable range for indices and is certainly much lower than turnover for most actively managed portfolios, which tend to be in the 50% to 100% range.
Capacity Constraints
Another concern regarding the S&P Equal Weighted Index and equal weighted indices in general is capacity constraints. Since all constituents are held at equal weights regardless of their market capitalization, an investment product tied to the index will have relatively large holdings in the smallest stocks in the index. This could produce liquidity pressures at rebalancing. However, deeper investigation shows that this concern is true only in theory.
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