Amid coronavirus uncertainty, billionaire investor Warren Buffet said: “Never bet against America.” Buffet, who has lived through all the crises of the past 90 years, noted that the US always returned to growth and became stronger after every crisis. Following the Oracle of Omaha's words, investors can bet on the US economy by gaining exposure to the three most popular stock market indices:
What's the difference between the Dow, Nasdaq, and S&P 500?
The three indices track the performance of the top companies trading in the US stock market. Trading on indices offers investors diversification and liquidity but is impacted by the companies’ corporate earnings and broader economic factors, such as trade wars, monetary policies, interest rates, GDP, and unemployment, as well as currency valuations.
The oldest among the three indices is the Dow Jones Industrial Average, created in 1896 by the Wall Street Journal. The Dow is a price-weighted index that tracks the 30 large-cap stocks listed on the New York Stock Exchange (NYSE) and Nasdaq. It provides exposure to different sectors, such as telecoms, energy, tech, pharmaceutical, and entertainment. The index is used as a benchmark to measure the relative performances of individual stocks.
The S&P 500 Index was created by Standard & Poor's in 1957 to track the 500 largest companies trading on the NYSE and Nasdaq. The market cap-weighted index constitutes around 80 per cent of the market cap of US equities and is used to measure the health of the overall US stock market and economy. The index is diversified across different sectors, with technology carrying the highest weightage of 26 per cent.
The youngest of the three indices, the Nasdaq 100 was created in 1985 to track the 100 largest non-financial stocks trading on Nasdaq. Like the S&P 500, the Nasdaq 100 is a market cap-weighted index and is used to measure the health of the technology sector.
Both the Dow and Nasdaq 100 are impacted by individual stock performance as they derive more than 50 per cent of their value from the top 10 stocks. However, the S&P 500 is more diversified, with the top 10 stocks carrying a total weight of 26 per cent.
Nasdaq vs S&P 500 performance
Each of the three indices offers different trading exposure. The Dow is the least volatile as it constitutes slow-moving blue-chip companies, while the Nasdaq 100 is comparatively more volatile because of its considerable exposure to high-growth tech stocks. The S&P 500 lies somewhere in between, but similar to most other indices, it falls faster than it rallies.
The Dow Jones and S&P 500 move in tandem, but the Nasdaq 100 fluctuates differently. For instance, the dot-com boom in 1999 and 2000 saw a sudden surge in tech stocks. During this time, the Nasdaq/S&P 500 difference rose tenfold. The Nasdaq 100 rose 130 per cent while the S&P 500 and Dow gained only 11 per cent each. When the dot-com bubble burst in March 2000, the Nasdaq 100 fell 67 per cent, while the S&P 500 shed 23 per cent in the following 12 months. The Dow was the least volatile, losing 13 per cent.
During the 9/11 attack, all three indices were equally volatile. They fell mid-teen percentages in just one week. The Great Recession of 2008-2009 saw the S&P 500 and the Nasdaq 100 fall 45 per cent and 40 per cent, respectively. It took these indices two years to return to their pre-crisis levels.
Let’s recap the indices’ values throughout modern history by taking a look at the Nasdaq vs S&P 500 charts.
The rise of the Nasdaq 100 Index
The last decade saw remarkable growth in the tech sector, widening the performance gap between the Nasdaq 100 and S&P 500. During this period, FAANGM stocks rose multifold. Facebook (FB) led the way in social media, Amazon (AMZN) in e-commerce, Apple (AAPL) in consumer tech, Netflix (NFLX) in online video streaming, Google (GOOGL) in online search, and Microsoft (MSFT) in OS and cloud.
The FAANGM stocks overlap, but their weightage is the significant difference between Nasdaq and S&P 500. These stocks account for 48 per cent of the Nasdaq 100 and just 22 per cent of the S&P 500.
Technology has become a part of everyday life and changed the way people live and work. The Nasdaq 100 is also increasingly attracting the attention of millennial investors. The index reached 7,000 points in 2018, the year when Apple and Amazon crossed the $1tr (£811bn, €924bn) market cap. In February 2020, the index peaked at 9,719 points.
Nasdaq vs S&P 500: battle of the US titans in 2020
The US stock market is facing another crisis in 2020 as the coronavirus-driven lockdown has brought businesses to a standstill. Major sectors like airlines, travel, clothing, and oil have been hit severely. During these times, the work-from-home regime, online streaming, video games, online shopping, and digital payments have become the new normal. The Nasdaq 100 has recovered significantly from the March sell-off and is trading positive year-to-date (YTD), whereas S&P 500 and Dow are still negative YTD.
Investors are shifting from S&P 500 to Nasdaq 100 amid the pandemic. The Invesco QQQ Trust Series 1 ETF (QQQ), which tracks the Nasdaq 100 Index, has recently crossed the $100bn mark for the first time. In April, the SPDR S&P 500 ETF Trust ETF (SPY), which tracks the S&P 500 Index, reported net outflows of $9.7bn, whereas QQQ reported net inflows of nearly $5bn.
Invesco QQQ strategist Ryan McCormack stated that the Nasdaq 100 is well positioned to capitalise on the Covid-19 trend because of its exposure to tech, biotech, and healthcare. According to a CNBC article, Yardeni Research president Ed Yardeni stated that the FAANGM companies' resilience to the coronavirus crisis has made them more immune to government regulation.
The inevitable economic recession
The recent market recovery was driven by the US government's fiscal and monetary support. Despite the support, the Covid-19 lockdown has pushed the economy into recession. The unemployment rate surged to 15 per cent in April from just 3.5 per cent in February. The US GDP shrank 4.8 per cent in Q1 2020, the biggest drop since Q1 2008. Economists are forecasting the GDP to shed 25 per cent or more in Q2 2020, with some forecasting a staggering 40 per cent decline.
According to Bloomberg, BlackRock's CEO Larry Fink expects the US economy to weaken in the near term with increasing bankruptcies and weakening consumer confidence. He warned that the $3tr government bailout in Q2 would lead to higher taxes in the future. Despite the weak figures and gloomy outlook, the stock market rose over the optimism around the reopening of the economy and ease in US-China trade talks.
However, the market might be heading towards another significant sell-off as it feels the pressure of the weakening economy. Investors are already betting on a bear market. Bloomberg, citing data from IHS Markit, stated that short interest as a percentage of shares outstanding on QQQ increased to 5.1 per cent on May 6 from 2.7 per cent on March 23.
Should you invest in the S&P 500 or Nasdaq 100?
Between two indices, which is a better bet? The S&P 500 better represents the US economy, but as seen above, it also constitutes sectors that would be badly hit in the recession. This exposure might offset growth in other sectors.
The Nasdaq 100 offers a higher weightage towards coronavirus-proof stocks, which are in business and generating cash flows amid global lockdowns. It also has a higher exposure in biotechnology firms Gilead (GILD) and Regeneron (REGN), which have made advances in the Covid-19 antibody testing programme. If they succeed in finding a vaccine or an effective treatment for the disease, their stocks will report unprecedented growth.
In the battle of Nasdaq vs S&P 500, the former offers investors higher volatility but it is easily the best performer in the past decade and is expected to retain its leading position going forward.
What are your bets on the future of the Nasdaq vs S&P indices? Which one will do better going forward?
If you think you are not ready to make long-term investment commitments, but still want to try to profit from the market volatility, you can do so through contracts for difference (CFD) trading.
Trade US Tech 100 - US100 CFD
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