Robinhood, AppLovin vault higher as the “inclusion effect” is in full force
Membership has its privileges.
Robinhood Markets and AppLovin jumped early Monday after both were tapped for inclusion in the blue-chip S&P 500 after the close of trading on Friday. Emcor, which was also added to the index, saw a more modest gain.
(Robinhood Markets Inc. is the parent company of Sherwood Media, an independently operated media company subject to certain legal and regulatory restrictions.)
As Sherwood News’ own Hyunsoo Rim recently pointed out, there’s been something of a resurgence in the so-called “index inclusion effect” — the tendency for stocks added to the index to enjoy a brief burst of outperformance after their inclusion in the blue-chip index is announced.
Rim wrote:
“According to a 2023 Harvard study, the average announcement day return for S&P 500 additions dropped from 9.4% in the 1990s to just 0.8% by the late 2010s — partially because markets got better at absorbing these shocks, and traders got better at predicting inclusions.
Now, though, a new Goldman Sachs analysis suggests the inclusion effect may be staging a comeback.
Since 2021, stocks newly added to the S&P 500 have outperformed the equal-weighted index by an average of 4 percentage points on the announcement day — with nearly three-quarters of those stocks beating the benchmark.”
On the one hand, it’s understandable why a sudden announcement of inclusion — as came after the close Friday — would send shares higher.
The committee at S&P Dow Jones Indices keeps such information tightly controlled until it’s made public. When the news comes, it means that a lot of money has to suddenly flow into these shares. Some $13 trillion in “indexed” assets directly mirror the composition of the S&P 500. And an additional $7 trillion or so in assets like mutual funds are benchmarked, or measured, against the index.
In practice, many of these “benchmarked” funds come close to mirroring the index while making small modifications that they hope can generate some outperformance. (This is know as “closet indexing.”)
On the other hand, it’s unclear why the potency of the inclusion effect should ebb and flow over time.
Goldman Sachs analysts who wrote on the index inclusion effect recently remarked that its recent reemergence may have something to do with the surge of stocks popular with retail investors that have been added to the S&P 500 lately. They wrote:
“Many of the best-performing recent index additions have been retail favorites. Retail trading activity has taken on greater importance in equity markets post-COVID, especially at the stock-level. Based on data from GS Global Banking and Markets, Coinbase, Super Micro Computer, and Palantir were extremely popular among retail traders and sharply outperformed on announcement day.”
That seems consistent with the market reaction today.
Both AppLovin and Robinhood are big retail favorites and saw big jumps, while the other addition, a slightly less sexy electrical and mechanical contractor and facilities management company called Emcor, is actually down on the day.
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