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Equal-weight investing assigns the same importance to each stock in an index or portfolio, unlike market-cap strategies that favor larger companies. This approach can offer diversification benefits and has at times outperformed traditional market-cap indexes, though it usually results in higher turnover.
Investors use equal-weight funds, including well-known equal-weight ETFs, to gain broad exposure and reduce concentration risk, making the strategy appealing for those seeking a more balanced allocation across company sizes.
Key Takeaways
- Equal-weight investing assigns the same importance to each stock, unlike market-cap weighted indices.
- Equal-weighted portfolios can offer higher short-term returns, especially through small-cap stocks.
- These funds generally have higher turnover and trading costs due to regular rebalancing.
- Invesco’s equal-weight funds provide diverse exposure, including major indices and sectors.
- Equal-weight ETFs can offer more protection during large sector downturns compared to market-cap weighted funds.
Exploring the Concept of Equal Weight Investing
Equal weight differs from the method more commonly used by indexes, funds, and portfolios in which stocks are weighted based on their market capitalization.
Major market indices like the S&P 500 use market-cap weighting, favoring big companies like Apple and Microsoft. The Dow Jones Industrial Average uses price-weighting, favoring stocks with high prices.
The concept of equally-weighted portfolios has gained interest due to the historical performance of small-cap stocks and the emergence of several exchange-traded funds (ETFs). Standard & Poor’s has developed more than 80 different equal-weight indices based on combinations of market cap, market, and sector.
Fast Fact
In the Dow SPDR Dow Jones Industrial Average ETF Trust (DIA), an exchange-traded fund that tracks the DJIA, the largest holdings, as of September 2021, are United HealthGroup, Goldman Sachs, and The Home Depot.
Analyzing the Performance of Equal-Weighted Indices
Small-cap stocks are generally considered to be higher risk, higher potential return investments compared to large-caps. In theory, giving greater weight to the smaller names of the S&P 500 in an equal-weight portfolio should increase the return potential of the portfolio. Historically, this has been the case—in the short term. From September 2020 to September 2021, the total one-year return for the S&P 500 Equal Weight Index (EWI) was 41.93%, vs. 33.72% for the traditional S&P 500 Index.
However, over the long term, the gap narrows—and in fact, the returns flip. The 10-year annualized total return (September 2019-September 2021) for the S&P 500 Equal Weight Index was 15.32%, but the S&P 500 outperformed it, returning 16.32%.
Important
S&P Global (the parent company of Standard & Poor’s) developed the S&P 500 Equal Weight Index in January 2003—an equal-weight version of the popular S&P 500 Index, as the name suggests. Although both indexes are comprised of the same stocks, the different weighting schemes result in two indexes with different properties and different benefits for investors.
Noteworthy Examples of Equal-Weight Funds
Invesco offers more than a dozen different equal-weight funds covering not only major indices such as the S&P 500 but also many of the market’s major sectors. The Invesco S&P 500 Equal Weight ETF (RSP), for example, provides the same exposure to the smallest companies in the S&P 500 as it does to corporate giants such as General Electric.
Warning
Equal-weight index funds tend to have higher portfolio turnover than market-cap weighted index funds: The fund manager has to periodically rebalance investment amounts so that each holding represents the same percentage amount of the total portfolio. As a result, they usually have higher trading costs, and their trading prices can be more volatile than in regular index funds. However, equal-weight ETFs offer more protection if a large sector experiences a downturn.
Other examples of equal-weight index ETFs include the Invesco Russell 1000 Equal Weight ETF, which is based on the Russell 1000 Equal Weight Index, and the First Trust NASDAQ-100 Equal Weighted Index Fund, which uses the NASDAQ-100 Equal Weighted Index as its benchmark.
The Bottom Line
Equal-weight investing gives every stock the same influence, boosting diversification and allowing small-cap strength to meaningfully lift returns. While this approach can outperform market-cap indexes over shorter periods, long-term results often favor traditional weighting.
Equal-weight funds also require frequent rebalancing, which can increase costs and volatility. Still, the strategy’s balanced exposure and reduced reliance on mega-caps have made equal-weight ETFs an attractive option for investors looking for broader market participation and risk spread, despite the trade-offs.
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