RSP: Selling Winners, Buying Losers

The Invesco S&P 500 Equal Weight ETF (RSP) underperformed the market-cap weighted S&P 500 (SPY) during the 2023-2024 bull market due to its equal-weighting methodology, which involves selling winners and buying losers during quarterly rebalancing. While RSP's diversification reduces concentration risk and offers exposure to smaller companies, its historical performance has been mixed, with larger drawdowns and a worse Sortino ratio than SPY; however, as the earnings divergence between the "Magnificent Seven" and the rest of the S&P 500 narrows, RSP may see improved performance, though a "buy" rating is not warranted.

Analysis

The Invesco S&P 500 Equal Weight ETF (RSP) demonstrated significant underperformance relative to the market-cap weighted S&P 500 (SPY) during the 2023-2024 bull market, a period characterized by narrow market breadth where gains were predominantly driven by a few large-cap stocks, notably the "Magnificent Seven." RSP's core methodology involves holding all S&P 500 constituents at equal weights, necessitating quarterly rebalancing—specifically after market close on the third Friday of March, June, September, and December—back to a 0.2% allocation per stock. This process inherently leads to selling recent winners, such as NRG Energy (NRG) which rose over 50% since the March rebalancing and saw its weight increase to 0.32%, and adding to recent losers like United Health (UNH) to restore their target weighting. Consequently, RSP systematically reduced its exposure to rapidly appreciating stocks like Nvidia (NVDA) during its 1000% surge, limiting its participation in such strong upside moves. While RSP, with a $71.4B AUM and a 0.2% expense ratio, offers diversification benefits by reducing concentration risk and tilting towards smaller S&P 500 companies, it has historically exhibited larger drawdowns and a worse Sortino ratio than SPY. The article notes that although RSP outperformed SPY in the 20 years prior to 2023, its performance over the last decade has lagged. Currently, year-to-date performance for RSP and SPY is comparable, attributed to a less uniform rally among the "Mag 7" and a narrowing earnings growth divergence between these mega-caps and the rest of the S&P 500. This evolving market dynamic suggests RSP's period of acute underperformance might be ending, potentially leading to modest outperformance in 2025, though the article assigns a "hold" rating due to the structural limitations of its rebalancing strategy.

Key Decisions for Investors

• Investors seeking to diversify away from mega-cap concentration and gain broader exposure across the S&P 500, including smaller-cap names, may find RSP suitable, but must recognize its methodology of selling winners inherently caps upside from sustained individual stock rallies.
• Given the current market trend of narrowing earnings divergence between the 'Magnificent Seven' and the broader market, RSP's relative performance to SPY may improve, however, its historical volatility and rebalancing strategy warrant a cautious outlook rather than expectations of significant, sustained outperformance.