Due to the “four witching days” of U.S. stocks overlaid with events such as tesla joining the S&P 500, analysts predict that Tesla will trigger sky-high trading tonight, thus increasing market volatility.
Next, the views of analysts in the foreign media will be integrated to analyze in detail the impact of Tesla, which has a huge valuation of $615 billion, after joining the S&P 500 index.
Tesla stock will be officially included in the S&P 500 next Monday (December 21), becoming the largest company ever to be included in the S&P 500, and will become its sixth largest component. Market views on this Wall Street event are divided into two schools of thought.
One faction is mainly the Smart Beta quantitative investors on Wall Street. They believe that Tesla will drag down the S&P 500.
Index leaders such as Rob Arnott (Rob Arnott) are constantly conducting research studies with data touting the possibility that large valued companies could hurt passive returns.
Their pessimistic views match those of Smart Beta investors. They say many stock indexes fall when the large companies that dominate them lose room for growth.
Arnott and a colleague at Research Affiliates recently published a paper titled “Tesla – The Largest Valued Stock to Enter the S&P 500: Buy Signal or Bubble? . In their paper, they examined 31 years of data and found that
If a company is valued within the top 100 in the S&P 500, after being included, the S&P 500 falls by an average of 7% in the following year. Meanwhile, the replaced company outperformed the index by an average of 20%.
This time, Tesla is replacing Apartment Investment and Management, whose shares are down 46% year to date.
According to Arnott, the data show that benchmark regulators such as the S&P and Dow Jones “buy high and sell low,” causing stocks removed from the S&P to outperform newly included stocks by 24 percent over the next 12 months, ultimately costing investors money and exposing what quantitative investors such as Arnott see as the flaws in market capitalization indexes — “an over-reliance on companies that may already be tomorrow’s losers.”
For Arnott, the addition of Tesla is an example of an index chasing stock prices. In a telephone interview, Arnott said.
“The addition of Tesla is a good example of that. It’s already up 800% from its March low. So now you’re going to add it in?”
Ironically, just after news broke that the S&P would include Tesla, Tesla’s stock soared about 50%, raising questions about what good news there will be to come.
Another skeptic about Tesla’s inclusion in the S&P is Vincent Deluard, head of global macro strategy at investment firm StoneX. In a report titled “Time to Fire the S&P 500 Committee,” he writes that waiting to buy Tesla has led to index investors losing more than $500 billion and giving “pension money to speculators.
To be sure, quantitative investors and fundamental traders are most concerned about the valuation mismatch between Tesla and other S&P stocks, with Tesla’s current P/E ratio of 20 times sales, almost 10 times the S&P 500 valuation.
Goldman Sachs chief equity strategist David Kostin (David Kostin) issued a report overnight to try to alleviate investors’ concerns. He wrote.
“Tesla’s P/E multiple will improve by only 0.4x when it joins the S&P 500 next week, well below most investors’ expectations.”
According to Costin, Tesla’s current P/E ratio is (only) 170 times the consensus P/E ratio for 2021, with a market cap of $600 billion and a float of $480 billion.
According to Goldman Sachs’ calculations, Tesla would represent about 1.5% of the index’s weight at its current market cap and, given Tesla’s large size and high P/E ratio, many investors mistakenly believe that the company’s inclusion in the S&P 500 will triple or more the index’s current P/E multiple. The current P/E multiple for the S&P 500 is 22 times, which is already near the highest level on record.
The other school of thought is that Tesla would raise the market capitalization of the index by about 1.5%, but would have little impact on the index’s returns and would raise the total index P/E multiple by less than 1.5%.
Moreover, the impact would be the same whether the P/E multiple of the included stocks was 170x, 500x or 1000x. Costin also explained that Tesla’s inclusion should raise the S&P 500’s P/E multiple (the ratio of stock price to sales revenue per share) by about 1%, from 3.11x to 3.14x.
That said, the addition of Tesla would have a greater impact on the S&P 500 market cap-weighted P/E ratio, which would rise from 28.9x to 31x.
Costin also tried to use historical landmark cases to show that the impact of Tesla’s entry into the S&P may be exaggerated. In 2000, for example, Cisco (CSCO) and General Electric (GE) had forward P/E ratios of 130x and 40x, respectively. Today, with Amazon (AMZN) at 70 times forward P/E and Tesla at 170 times, “we’re pretty confident that anyone can find some examples to test their theory.”
Costin calculated how much the addition of Tesla would affect the performance of the S&P, and this is one of the most valuable points of his report.
Tesla is up 657% this year, outpacing the S&P 500 by 640 points, and if it had been an S&P component during that time, it would have been able to raise the overall index by about 200 basis points, from 16% to 18%.
Of course, the ideal outcome would be this, for the S&P to get a return like that of the Nasdaq by adding a superstar company like Tesla. The only question is, is it too late to join? As Arnott warns, will Tesla stock have peaked and will only go downhill in the future?
One social media user, SqueezeMetrics, said that Tesla joining the S&P would be the worst news for Tesla bulls and would burst the Tesla bubble.
He explained that since June (when Tesla stock was at $200 per share), Tesla stock has been driven by hype and call option money and nothing more. Everyone knows this, but not everyone knows the following.
-When a stock joins the S&P 500, it becomes part of this vast volatility complex, a horrible web of arbitrage and pseudo-arbitrage relationships. And the fact that Tesla will join the index as a top 10 component is no small feat.
-Given Tesla’s enormity, various decentralized, relative value and market makers are beginning to rely on the new correlation between Tesla and the index to trade. This will inevitably lead arbitrageurs to buy SPX options or volatility and sell Tesla options or volatility to “bridge the spread.
-Because Tesla stock is driven by call option returns, it becomes a slave to the greedy: subject to the relationship between option price (implied volatility) and delta (stock exposure).
Since June, Tesla stock has only risen when implied volatility has risen.
Adding Tesla to the S&P is like having these call options of unprecedented size and the hype machine behind them crash into the big red fire engine that is the S&P at 500 mph: implied volatility will not rise and the call options will lose value. Real traders will absorb the new money flow.
With call option speculation trading blocked, Tesla stock will have no possibility of providing further returns. For Tesla, this is an ironic fate – death by its own “success”.
SqueezeMetrics’ view above seems pessimistic, but Arnott’s summary is no better, saying.
“When people ask, ‘When will the Tesla bubble burst?’ I jokingly say it will be on Dec. 22. No one really knows when that will be, but then people will stop debating the pros and cons of its inclusion in the S&P, and that’s when the market will start looking for Tesla’s true value.”
The answer to who is right and who is wrong will come in a few days.
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