For the last decade, it’s paid to only the largest companies in the U.S. Forget small-, mid-, and the smaller large-caps in the S&P 500. Investing in stocks like Apple (AAPL), Microsoft (MSFT), and Alphabet (GOOG, GOOGL) delivered the best returns, and since they also happen to be the most profitable, it stands to reason they’ll be able to weather any economic storm ahead. That’s the logic behind choosing the Invesco S&P 500 Top 50 ETF (NYSEARCA:XLG), and after evaluating its fundamentals, I find it a suitable S&P 500 alternative. But as I’ll explain in this article, you might want to wait a little longer before buying.
Strategy and Fund Basics
XLG tracks the S&P 500 Top 50 Index, selecting the 50 largest companies from the S&P 500 and weights based on free-float market capitalization. The Index is reconstituted annually in June, and companies ranked in the top 45 for FMC are automatically selected, followed by any current constituent company still in the top 55. Companies are then added by rank until the target stock count is met. Today, this means XLG is essentially a mega-cap fund, with alternatives including the Vanguard Mega Cap ETF (MGC), the Vanguard Mega Cap Growth ETF (MGK), and the Principal U.S. Mega Cap Multi-Factor ETF (USMC). USMC follows a low-volatility strategy, so it’s probably the least similar to XLG of the three. The iShares S&P 100 ETF (OEF) is another option for investors wanting a little extra diversification.
Before we get to current exposures, performance, and fundamentals, here are a few additional statistics for easy reference:
- Current Price: $312.95
- Assets Under Management: $1.99 billion
- Expense Ratio: 0.20%
- Launch Date: May 4, 2005
- Trailing Dividend Yield: 1.12%
- Five-Year Dividend CAGR: 2.39%
- Ten-Year Dividend CAGR: 5.92%
- Dividend Frequency: Quarterly
- Five-Year Beta: 0.98
- Number of Securities: 50
- Portfolio Turnover: 5%
- Assets in Top Ten: 51.42%
- 30-Day Median Bid-Ask Spread: 0.04%
- Tracked Index: S&P 500 Top 50 Index
- Short-Term Capital Gains Tax Rate: 40%
- Long-Term Capital Gains Tax Rate: 20%
- Tax Form: 1099
XLG’s five-year beta of 0.98 makes it nearly identical to SPY’s (0.99), and its strategy results in minimal annual turnover (5%). Low turnover ETFs are excellent for passive investors because they won’t have to perform frequent reassessments as the Index reconstitutes. What you own today is mostly what you’ll own next year. One negative is the relatively high 0.20% expense ratio (SPY is 0.09%, IVV and VOO are both 0.03%). It’s still low enough that it won’t make too much difference in the long run, but passive investors should still minimize fees unless there’s a compelling reason to deviate.
Sector Exposures and Top Ten Holdings
XLG’s sectors exposures, along with SPY, MGC, MGK, and OEF, are shown in the table below. There are a lot of similarities between SPY and OEF, but a differentiator is that XLG has 38.44% in Technology. Depending on the market’s appetite for risk, investors could toggle between any of these ETFs to achieve their desired level of growth and still end up reasonably correlated with the broader market.
XLG’s top ten holdings are below, totaling 51.42% of the ETF, nearly double the 27.40% figure for SPY. The weighted-average market capitalization is $966 billion, and the top six are considered mega-caps with market values above $200 billion.
Historical performance is remarkably similar to SPY, offering nearly the same returns, risk-adjusted returns, volatility, and maximum drawdowns. If you want to replace SPY with XLG, I think it could work well in the long run.
In its early years, XLG was less concentrated than it is today. For example, post-Great Financial Crisis, as of March 31, 2009, SPY’s top ten holdings totaled 22.11% compared to 28.65% today, and the only two tech names were Microsoft (MSFT) and IBM (IBM), with allocations of 2.02% and 1.87%, respectively. Now, the three tech names in the top ten total 14.16%, so today’s portfolio is more growth-oriented. An analysis of annual returns confirms this. XLG underperformed SPY by about 6% per year in 2009 and 2010 but outperformed by nearly as much in 2020.
Against its peers, XLG looks very similar over a complete market cycle. Since January 2008, it’s gained an annualized 9.58% compared to 9.69%, 9.40%, and 9.56% for MGC, OEF, and SPY.
History suggests that over the long run, XLG’s performance is unlikely to differ much from the S&P 500. However, I think potential opportunities exist given how growth-oriented the Index is today. Much like how XLG underperformed in 2009-2010 as oil and value stocks did poorly, the reverse may be true today if growth stocks continue out of favor. For that, let’s look at XLG’s fundamentals and see how they stack up against MGC, OEF, and SPY.
All ETFs are very similar on nearly all metrics, but XLG is the most growth-oriented of the four. Its weighted-average revenue, EPS, and EBITDA growth rates are a couple of percentage points higher, and it has slightly higher forward price-earnings and trailing price-cash flow ratios. Also, 15 holdings have double-digit forward EPS growth rates, which is pretty incredible.
Two figures stand out, though: its higher concentration of assets in the top 20 (71.22%) and how much better its constituents have performed in the last five years. With a weighted-average total return of 225.12% (43% better than SPY), XLG might offer a decent short-term boost if the market has indeed bottomed. XLG’s top five holdings total 40.71%, each trading below their 50-day, 100-day, and 200-day moving average prices. If this were to reverse, XLG would benefit the most, and the outperformance would be material.
It’s best to think of XLG as just a slightly modified version of SPY, but due to the dominance of big tech over the last decade, it has a more robust growth profile than SPY, MGC, and OEF. I count this as a negative in the current environment but am cautious about betting too much against the S&P 500’s top stocks, given their outstanding profitability. Therefore, while I don’t recommend buying XLG over SPY today, there’s likely a good opportunity if the market falls another 10% or so. Put it on your radar, and I look forward to discussing more in the comments below.