June 2024
The S&P 500 index is the ultimate testimony that democracy somehow works.
The S&P 500 is a forever-changing list of the top 500 companies in the USA. The S&P 500 has a total market cap of 46 trillion dollars, and Apple, Inc. itself has a market cap of 3 trillion dollars. This means that you can spend 3 trillion dollars to fully own Apple, Inc. You can also spend 46 trillion dollars to fully own all 500 companies.
Investors in the market are voting every day by buying and selling shares of companies. And, we believe the investors as a collective is actually very intelligent, so we should just follow them. These votes have weights. A $1M buy should have more voting power than a $100 buy. Therefore, a company with a large market cap weighs more in the S&P 500 index.
Apple, Inc. is 1 out of the 500 companies. When we weigh companies by market cap, which is the case for the S&P 500, Apple, Inc. is 7% of the S&P 500.
In the case of equal weighting, Apple, Inc. is merely 0.2% of the S&P 500. This doesn’t make sense. You should put more money into a better business.
When we buy the top 500 companies in the US, we split the pie using market cap.
<aside> 📌 The S&P 500 is a group of the top 500 companies in the USA, where the whole pie is divided not by an equal share but by valuation measured by market cap.
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So, the weights are always changing because the market caps are always changing as investors are constantly voting - buying and selling. The S&P 500 index is not a list of companies but an algorithm.
The number one rule in investing is to make sure the asset is irreplaceable and enduring in the foreseeable future. And, it turns out the S&P 500 algorithm is exactly that.
Is Apple. Inc. going to last 100 years? Or, is the S&P 500 going to last 100 years?
Very likely the S&P 500. This conclusion comes down to our belief that investors as a collective are intelligent.
But investors are stupid, you might say.
An individual may be stupid, but a collective of people is always smarter than it seems. This is why democracy works.
But what if we have a collective of stupid people?
Luckily, America attracts the smartest people, and they are the ones voting.
OK, but not everyone in America is smart.
Smart people have more voting power in the S&P 500 because smart people usually have more money.
OK, but the S&P 500 can be owned by non-Americans.