Equal weight investing in the S&P 500 has become an increasingly popular strategy among investors. By assigning equal weights to all 500 companies in the index, it reduces concentration risk and caps the influence of mega-cap technology stocks. Fidelity offers an equal weight S&P 500 ETF (RYU) that provides exposure to this investment approach. In this article, we will analyze the pros and cons of equal weight S&P 500 investing and examine Fidelity’s RYU ETF.
Equal weight S&P 500 reduces concentration risk
The market-cap weighted S&P 500 index has high concentration in a handful of mega-cap technology companies like Apple, Microsoft and Amazon. The top 10 holdings account for over 30% of the portfolio. In contrast, RYU assigns equal 0.2% weight to each constituent, capping single stock risk. This results in a more diversified portfolio that could potentially deliver better risk-adjusted returns over the long run.
Equal weight indexing limits influence of overvalued stocks
By equal weighting, RYU avoids the tendency of market-cap weighted indices to accumulate overpriced large-cap glamour stocks. Academic research shows that the highest market-cap companies have historically underperformed over long horizons. By breaking the link between price and portfolio weight, equal weighting may lead to superior returns if the factor premium associated with smaller size persists.
Rebalancing provides a contrarian tilt
RYU rebalances quarterly to maintain equal stock weights. This forces the ETF to trim recent winners and buy more of recent losers – enforcing a contrarian investing discipline. Several studies show that rebalancing provides a significant boost to returns over long periods. Thus, the rebalancing requirement gives an additional edge to equal weight ETFs.
Higher fees could erode outperformance
The main drawback of RYU is its expense ratio of 0.20% compared to just 0.03% for S&P 500 ETFs like VOO or IVV. These higher fees put pressure on RYU to generate sufficient outperformance to compensate investors. While RYU has outpaced the S&P 500 over the past 5 and 10 years, future returns may vary.
In summary, RYU offers a compelling strategy for S&P 500 exposure by reducing concentration risk, limiting overweight positions in mega-cap stocks, and providing an inherent contrarian tilt from rebalancing. While fees are higher, the long-term return and risk attributes may justify holding this equal weight ETF.