Tesla Mutual Funds: Understanding TSLA’s Addition to the S&P 500

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When Tesla (ticker: TSLA) was added to the S&P 500 in December 2020, it was likely the biggest company by market value added to the benchmark index.

At the time, Tesla’s market cap was $600 billion. That has grown to around $800 billion, and the company has seen monster valuation growth. In 2020 alone, TSLA stock rose more than 700%. Goldman Sachs said in a research note that had the electric vehicle maker been in the S&P 500 since the beginning of the year, the index’s return would have been 18% rather than 16%.

What that means is that investors who own a mutual fund that tracks the S&P 500 automatically own a little bit of Tesla.

“Like it or not, people are going to end up owning it because if they own the index, or some variation of it, they are going to be shareholders of Tesla,” says Alex Chalekian, founder and CEO of Lake Avenue Financial.

Some of the best-known and widely used mutual funds tracking the S&P 500 include the Vanguard 500 Index Fund ( VFINX), the Fidelity 500 Index Fund ( FXAIX) and the T. Rowe Price Equity Index 500 Fund ( PREIX). Those three index funds are also commonly found in 401(k) retirement plans.

Because all three of the funds closely track the S&P 500, Tesla makes up 1.69% of their portfolios’ holdings and is the fifth-ranked name in terms of weighting, as of December 2020.

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High Expectations Priced Into the Stock

Tesla missed analyst estimates on earnings for the fourth quarter, but reported a profitable quarter for its electric vehicle and solar business — wrapping up its first full profitable year in 2020.

Pat O’Hare, chief market analyst at Briefing.com, says a lot of high expectations are priced into Tesla’s stock price as shareholders see it as a transformative company and not just another automaker.

“The narrative that took over last year, and certainly after it was announced that it would be added to the S&P 500, was effectively that its battery technology is going to be a massive game-changer and a huge beneficiary for the global climate,” he says.

Chalekian says it was unprecedented to see a company of Tesla’s size added to the S&P 500. “I would much rather have had Tesla go in when it was at an $80 billion market cap, not when it’s an $800 billion market cap,” he adds.

[SEE: 7 Best ESG Funds to Buy.]

What Tesla’s Addition Means for Mutual Funds That Hold TSLA

Investors who own index funds that hold Tesla, especially those that are market-cap weighted like the S&P 500, may want to brace for a little more volatility than they are used to experiencing, O’Hare says.

Considering that the top three S&P 500 holdings, Apple ( AAPL), Microsoft Corp. ( MSFT) and Amazon.com ( AMZN), are around 15% of the index’s weight, investors have seen how just a few stocks can drive the market. “If Tesla is in that cohort, it opens the door for larger moves, up and down,” O’Hare says.

While a sell-off in Tesla alone might not shake the index a lot, if there’s a collective sell-off among megacap companies in the tech sector, an index fund investor should expect to see “a pretty good drawdown if they’re all fully participating in the sell-off,” O’Hare says.

Investors who held mutual funds that were invested in Tesla before the stock’s massive run-up should also check to see how much the position has swelled.

Adam Sabban, a research analyst for equity strategies at Morningstar, wrote in a research note that in 2014, the Baron Partners Fund ( BPTRX) bought a stake in the company worth 5% of the fund’s assets. As of December 2020, that stake stood at 47% of net of assets.

“At such a level, the stock effectively controls the fund’s fate,” Sabban wrote, saying Tesla’s gains circumvented the fund’s risk controls.

[SEE: 7 Tech Stock Ideas That Aren’t FANG Stocks.]

Other Mutual Funds That Hold Tesla

Aside from index mutual funds following the S&P 500, other mutual funds hold the company. The USAA Nasdaq-100 Index Fund ( USNQX), which follows the Nasdaq-100 Index, has Tesla at about 4.5% of net assets and as its fourth-largest holding.

Steve Azoury, financial advisor and owner of Azoury Financial, says he has noted even some actively managed fund families usually considered more conservative, such as American Funds, have had a position in Tesla even before it was added to the S&P 500.

He points out that Tesla is the top holding in the American Funds New Perspective Fund ( ANWPX), at 7.1% of net assets. The fund’s total assets are around $130 billion. New Perspective’s objective is to take advantage of global trade patterns by investing in multinational companies that have strong growth prospects.

The $265 billion American Funds Growth Fund of America ( AGTHX) also has a hefty position in Tesla, at 7.3% of net assets. According to the fund’s prospectus, AGTHX seeks opportunities in traditional growth stocks as well as cyclical companies.

Azoury uses these two funds with clients and says he has noticed they significantly increased their holdings in Tesla in 2020.

Azoury says another mutual fund that expanded its Tesla holdings is the Harbor Capital Appreciation Fund ( HCAIX). For this $42 billion fund, Tesla is the third-largest holding, at 6.7% of net assets, behind Amazon and Apple. HCAIX is an aggressive growth fund that looks for catalysts expected to drive long-term growth rates.

Even though the three funds have significantly higher weightings in Tesla than index funds, he is not concerned — and the American Funds family is one of his favorites.

“They’re very consistent and they don’t do stupid things,” he says. “It encourages me that if they’re buying Tesla, then they think it’s for real.”

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Tesla Mutual Funds: Understanding TSLA’s Addition to the S&P 500 originally appeared on usnews.com

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