On Monday Dec 21, 2020, Tesla will officially join the S&P 500. Its inclusion into the index will prompt dozens of index funds and ETFs that track the index, into buying the stock, whether they like it or not. On Friday this week, in the last 10 minutes of trading, Tesla’s stock price spiked 10% as funds poured in billions of dollars to buy the stock into their portfolio.

As the sixth biggest company on the S&P 500, Tesla’s weighting, will have a sizable impact on the index, not to mention its enormous volatility. Tesla’s shares have been almost three times as volatile as the S&P 500 this year, averaging a 4.1% daily move vs the index’s 1.4%. Given that volatility is by far the most important input into option contracts tied to the S&P 500 along with other derivative measures, it is widely expected that the addition of Tesla is going to bring wild swings to the S&P 500 like it has never seen before.

Future Wealth’s View

To say it was not a good idea to add Tesla to the S&P 500 is an understatement. Barring its recent ascent to profitability, it would have likely remained an esoteric stock with an enigmatic leader who produced a phenomenally good product. To be considered for the index, companies must report an accumulated profit over four consecutive quarters, including the most recent.

Big bonuses were dangled in front of Tesla’s CEO – Mr. Musk to make the numbers that would trigger his bonus – to hit four trailing quarters revenue of $20 billion or EBITDA of $1.5 billion. Of course, he pulled all the stops to get to the first tranche of his bonus of $1.7 million shares or ~$ 1 billion. And, with stock price appreciating over 700% this year, there are many more tranches of bonuses to come, that will likely make him the richest man in the  world at some point.

We, Future Wealth, have no beef against Musk making money as he pleases. We do, however, have a problem with his stock being a part of an index that we rely on as bellweather holding for all our clients. Bringing unnecessary volatility to an otherwise stable index is akin to a throwing a wolf in sheep’s clothing into the mix. As a result, we would advise investors to consider less volatile investment vehicles that mimic the S&P 500 sans Tesla to continue to provide stability in their portfolios.

As the saying goes – “Sometimes it only takes one bad apple to spoil the whole barrel”.