The S&P500 is one of the most widely held indices in the US. And yet, the Market Cap weighted version has a tendency to become dominated by a handful of big caps. This is especially likely towards the end of a major run, when a handful of megacaps dominate the trading action.

One possible solution? Replace, at least in part, the cap weighted index with an equal weight S&P:  SPDR S&P 500 (SPY) with an equal weight ETF such as Rydex S&P 500 Equal Weight (RSP). See the Table below from The Chart Store:

click for larger table


See also: S&P 500 ETFs: Market Weight Vs. Equal Weight

Category: ETFs, Markets

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

13 Responses to “S&P500 Cap Weight versus Equal Weight”

  1. [...] Equal weights vs. cap weights:  a tale of the tape.   (Big Picture) [...]

  2. chartguy says:

    While equal-weighted indexes sound like a good idea, they have an inherent downward bias. The geometric mean is never greater than the arithmetic mean.

    I’ve studied this issue for a long time. I think Charles Dow had it right 125 years ago when he set up a simple, price-weighted index. As money flows into a stock, its price rises and its weight in the index rises. Eventually, it splits, redistributing some of that increased weight to the other stocks.

    Capitalization-weighted indexes accurately reflect overall performance, since they reflect what happened to dollars. That means that because stock markets peak with over-enthusiasm in an area, they will reflect that. Back in March 2000, Cisco had the greatest market cap of any US stock. It was also the biggest part of people’s portfolios. Most owned it via mutual fund, but almost everyone owned it.

    In the end, what’s useful is noting when the various types of indices diverge. That tells you that money is not flowing evenly into, or out of, the overall market.

  3. machinehead says:

    Thank you for the update on the equal-weighting strategy. I was not aware that its outperformance extended to sectors as well. The source isn’t indicated — is the data from Fusion IQ?

    From the linked Forbes article:

    Volatility tends to be higher on the S&P 500 EWI versus the S&P 500. For the five years ending December 2007, the annualized standard deviation was 10.97% for the S&P EWI vs. 8.61% for the S&P 500. This reflects the fact that smaller cap stocks are generally more volatile than larger companies and the S&P 500 EWI has a greater tilt toward small cap stocks than the S&P 500.

    Aha — so there’s no free lunch. The EWI’s extra return is ‘paid for’ with extra risk. But is the price worth it? The Sharpe ratio can help answer that question.

  4. machinehead says:


    More specifically, the arithmetic mean of a list of non-negative real numbers is greater than or equal to the geometric mean of the same list.

    Once you include negative returns — and they will nearly always be present in a list of 500 stocks — this assertion falls apart. Otherwise, it would not be possible for the equally-weighted index return ever to exceed the cap-weighted index, in any year.

    Thus, I am doubtful of your assertion about inherent downward bias.

  5. foosion says:

    Equal weighting is another way of saying over-weighting small (and therefore small value) compared to cap weighting. As Fama-French and others have shown, small and small value are higher risk stocks with higher expected returns (value here meaning low price/book). This explains the out-performance of equal weighting. It’s usual cheaper to combine S&P 500 with a small value index than to go for an equal weighted fund.

  6. machinehead says:

    Pertinent to chartguy’s observation, the Forbes article states:

    A study done by Srikant Dash and Keith Loggie of Standard and Poor’s in 2008 analyzed the performance of the S&P 500 and the S&P 500 EWI. Since 1990, the EWI has outperformed by 1.5% per year but not consistently. It lagged the S&P 500 for six consecutive years from 1994 to 1999, but outperformed the S&P 500 for seven years through 2006. The study suggested that the equal weighted index appeared to underperform the S&P 500 during strong markets, but held up better during bear markets.

    Underperformance in strong years — more precisely, strong advance/decline ratio years — is exactly what you’d expect mathematically. In years with many decliners, the EWI’s advantage is probably due to its rebalancing effect — e.g., having cut tech sector weighting near the top, at the end of 1999.

    Using a moving average to implement a switching strategy isn’t as easy as it sounds — after all, the S&P was above its MA for most of the 2003-2006 period, yet the EWI still outperformed. This requires further investigation. To the spreadsheets, citizens!

  7. srix says:

    The equal weight version would higher trading costs and associated tax drag compared to the market cap weighted index. So in reality the spread between the equal weighted and market weighted index may not be that large.

  8. [...] The S&P 500: cap weight vs equal [...]

  9. inthewoods says:

    Agree with @foosion – if RSP, for instance, is outperforming, it indicates that small caps are outperforming large caps. While not completely consistent, you can see this when you look at the relative strength ratio of SPY to RSP and SPY to IWM – it’s an interesting indicator of appetite for risk in my opinion.

  10. BobCarver says:

    @chartguy: “The geometric mean is never greater than the arithmetic mean.”

    You just proved why the equal-weight outperforms something that was not even under discussion. Apples vs. avocados.

  11. mbsays says:

    There is nothing too surprising here. My large-cap dominated portfolio has underperformed since the bottom but it never fell as far to begin with. Many of the non mega-cap members of the S & P got completely crushed and have double and even tripled from the bottom. (OK… forget financials… psychologically better to do so….)

    It would be more interesting to see this data over extended periods; 5, 10 -15 years.
    I would suspect that an equal-weighted would out-perform because there is automatically rebalancing in the index.
    Ultimately the answer is in the index.

    Also, the illustration here is not for small caps but for members of the S & P 500. We are talking about mega-caps and large caps.

  12. bbieber says:

    Rather than listen to a lot of geodetic means, arithmetic means, exponential means
    and the average decline in the price of a house in Hooterville can anyone provide a list of
    cap weighted ..I want to say RAFI etf’s of the above major catagories can proceed to invest
    and make some money…rather than wax intelligent… Lets run the 14-33-45 mean reversion
    retrogression on this one….

  13. gloeschi says:

    According to the table, equal weight has outperformed market cap weight in every single sector. It would be nice if someone could break down the contributing factors. How much was due to general outperformance of small caps during a bull market (this could reverse in a bear market) and how much was due to the effect of rebalancing?