Indexology^® Blog

The first half of 2022 saw supply chain disruptions, interest rate hikes amid rising inflation and geopolitical tensions sour sentiment, creating a complex environment for equity markets. The S&P 500^® was down 20%, which represented the worst start of the year since 1970. What was the impact on other S&P DJI U.S. equity indices and their competitors? In this blog, we analyze and compare the mid-year absolute and relative performance of various S&P DJI U.S. equity indices and CRSP equity indices designed to represent similar segments.

The S&P Composite 1500^® is designed to measure the performance of U.S. equities across the size spectrum by combining the S&P 500, S&P MidCap 400^® and the S&P SmallCap 600^® in float-market cap proportions. But the S&P 1500^® is not alone in seeking to measure the U.S. equity market; the CRSP US Total Market Index has a similar objective.

Exhibit 1 shows that the S&P 1500 outperformed the CRSP Total Stock Market Index over various horizons. The S&P 1500’s outperformance typically came from across the cap spectrum: the S&P 500, S&P 400^® and S&P 600^® outperformed their respective CRSP counterparts in several periods, mainly on a YTD and 1-year basis.

Differences in index construction can help us to understand these performance differentials. Exhibit 2 summarizes the methodologies underlying the S&P DJI U.S. equity indices and their CRSP counterparts. One of the biggest differences between the methodologies is that, unlike the CRSP indices, the S&P 1500 and its component indices use an earning screen: new index additions must have a history of positive earnings.

Exhibit 3 shows the impact of the earnings screen on the S&P Composite 1500’s and S&P SmallCap 600’s factor exposures: each S&P DJI U.S. equity index has statistically significant positive quality exposure. Similar results can be obtained for other market cap segments. Given the role of the quality factor in driving relative returns against other indices, particularly in small caps,¹ differences in performance and factor exposures once again highlight the importance of index construction.

The methodology differences can also affect the indices’ sector exposures and the selection of companies within sectors. Exhibit 4 shows the 2022 average weight of each index to the IT sector as well as the allocation and selection effect specifically for the IT sector. The S&P U.S. Indices’ lower exposures to IT meant they were more insulated against the sector’s drawdowns in the first half of 2022. Interestingly, the S&P U.S. Indices’ choice of IT stocks proved more resilient than their CRSP counterparts and the selection effect was more important across the cap spectrum.

On average, the S&P DJI U.S. equity indices outperformed their CRSP counterparts by 2.0% in the first half of 2022 and 2.5% on a trailing one-year basis. These results were driven by differences in index construction, which led to the S&P U.S. Indices having meaningful exposure to the quality factor, lower exposure to the IT sector and the selection of IT companies with stronger performance.

¹ See https://www.indexologyblog.com/2022/01/26/sp-smallcap-600-a-pandemic-case-study/

Explore how a rules-based approach to tracking real estate companies in the S&P 500® impacts dividend yield and diversification.

2022 has been a tumultuous year characterized by reversals, with the S&P 500^® down 20% in the first six months of the year and rebounding by 9% in July. In this uncertain environment, seeking defensive exposures via sectors could mitigate portfolio risk, but a nuanced perspective may be required to understand which sectors offer the best defense.

As Exhibit 1 illustrates, over the past 12 months, Energy was not only the most volatile sector, but was also the most positive contributor to the S&P 500’s performance. Meanwhile, Information Technology, the largest of the S&P 500 sectors by weight, was a key detractor to the S&P 500’s performance and the third most volatile sector.

The impact of the Energy and IT sectors is particularly interesting to analyze due to the sectors’ different diversification properties. In Exhibit 2, we calculate the spread in trailing 12-month volatility between the S&P 500 versus S&P 500 Ex-Energy and the S&P 500 Ex-Information Technology, respectively. When this spread is positive, the inclusion of the sector increases volatility in the benchmark; when negative, the sector acts as a diversifier. Note the negative spread for Energy and positive spread for IT, over the most recent 12-month observation.

Digging deeper, Exhibit 3 plots the trailing 12-month correlations of the Energy and Information Technology sectors, respectively, with the S&P 500 excluding that sector. Consistent with the results of Exhibit 2, the correlation between S&P 500 Energy and S&P 500 Ex-Energy has declined in recent years. In contrast, the correlation between S&P 500 Information Technology and S&P 500 Ex-Information Technology, which has historically been positive, has increased recently. In other words, Energy’s performance has increasingly been divergent from the rest of the market’s, while IT’s performance has increasingly mirrored the remainder of the market.

While we can conclude that Energy has recently been acting as a defensive sector by mitigating market volatility and Information Technology as a cyclical play via risk enhancement, this hasn’t always been the case. For example, in 2008, during the depths of the financial crisis, these two sectors acted very differently, as adding Energy significantly increased market volatility, while adding IT decreased overall market volatility. In contrast, following the burst of the tech bubble in 2001, IT added substantially to market risk. Understanding that sectors’ defensive characteristics change over time is key to alleviating risk via sector allocation.

U.S. equities rebounded in July thanks to earnings from mega-cap technology and major oil companies. The S&P 500^® surged 9.2%, posting its best month since November 2020 and reversing its 8.3% loss in June. Nevertheless, the S&P 500 remains in correction territory, down 13.1% from its Jan. 3, 2022, record high.

The S&P Systematic Global Macro Index (SGMI) has outperformed the equity market YTD. While the S&P 500 was down 12.6% YTD, the multi-asset trend following index rose 17.4%, similar to the average returns of commodity trading advisors (CTAs) as measured by the SG CTA Total Return Index. In the 12-month period, the SGMI outperformed the broad equity benchmark and the CTA index (see Exhibit 1).

The SGMI is designed to measure a trend-following strategy that takes a long, short or zero position in 37 constituents across six sectors (equities, fixed income, short-term interest rate, foreign exchange, commodities and energy). The trend signal for each constituent is evaluated and established individually via regression. Sectors and constituents are weighted so that they contribute equally to the index risk. The index uses leverage to achieve its 17.5% target volatility.

The SGMI is rebalanced monthly. Comparing its allocation in early August with that at the end of July, we can see the index is shifting from commodities to equities (see Exhibit 2). This is not surprising as it is designed to capture and respond to the latest trend in the market. The index continues to short government bonds but has scaled back the size of these short positions.

It remains unclear whether the market has completely shaken off concerns over inflation and rising rates. The S&P SGMI may help market participants seeking to ride market trends via a diversified multi-asset approach.

Key Observations:

• Infrastructure owners and operators provide real asset exposure in inflationary environments
• Opportunities for yield on infrastructure continue to be relatively strong
• Infrastructure companies have delivered consistent operating margins over time

How can investors power through the rising inflation, low real yields and sluggish profits in today’s volatile markets? The answer may be pure-play infrastructure companies. By owning critical products and services, these companies can raise prices to offset inflation, pay reasonable dividends, and maintain consistent operating margins.

Fight Inflation Fears with Infrastructure

Inflation, as measured by the consumer price index (CPI), is at the highest level in 40 years,¹ and New York Fed data on one‑year inflation expectations suggests that price increases could persist. Inflation can have an adverse impact on growth and profitability across many sectors, but owners of real, essential service assets like energy and water may buck the trend by increasing prices during inflationary times.

Going back to 2008, pure-play infrastructure has outperformed the S&P 500 in inflationary periods. When year-over-year inflation exceeded the average of 2.25%, 25 bps above the Fed target rate, the Dow Jones Brookfield Global Infrastructure Composite Index outperformed the MSCI ACWI Index by 1.1% and the S&P 500 by 0.4% monthly and 13% annually, on average.

Hungry for Yield

Finding yield has been challenging in the low interest rate environment since 2008. The addition of inflation has made this even more acute. Investors looking for yield may be skeptical of fixed income as the Fed starts increasing rates, since loss of principal could easily offset gains from interest. Further, high inflation erodes real rates of return. While fixed income is principal protected, there is no participation in economic growth.

Infrastructure companies often offer attractive yield and potential capital appreciation. Since 2014, infrastructure owners and operators have provided higher yield than the S&P 500 and the 10-year U.S. Treasury.

Consistent Performance Amidst Uncertainty

Uncertainty is rising as markets grapple with multiple headwinds. Many companies are facing margin compression and recent earnings results showed sales growing faster than earnings, reflecting pressure on operations.

Against this backdrop, investors may put a premium on consistency and stability. Infrastructure owners and operators typically have long-term agreements that help deliver consistent fundamental results. Operating margins are historically less volatile than the MSCI ACWI Index, S&P 500 and the S&P 500 Energy Index, providing some stability in uncertain times.

¹ Source: U.S. Bureau of Labor and Statistics, “Consumer Price Index,” April 2022.

This information is not meant to be investment advice. There is no guarantee that the strategies discussed will be effective. Investment comparisons are for illustrative purposes only and not meant to be all-inclusive.

 Any forward-looking statements herein are based on expectations of ProShare Advisors LLC at this time. ProShare Advisors LLC undertakes no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Investing involves risk, including the possible loss of principal.