This article was originally published on ETFTrends.com.
Equal weight, the index methodology that assigns approximately the same weights to all of the benchmark’s components, is one of the oldest iterations of smart beta and remains popular with advisors and investors today.
RSP “effectively delivers mid-cap stock exposure by weighting the stocks in the S&P 500 equally instead of by their market cap,” said Morningstar in a note out Friday. “This approach increases the fund's exposure to the smaller and riskier stocks in the S&P 500. Equal-weighting diversifies firm-specific risk but leads to persistent sector bets that may not always pay off.”
Typically ETF and index fund approaches to the S&P 500 are cap-weighted. In contrast, an equal-weighted indexing, like its naming suggests, would equally distribute the weight among all company holdings within the index, regardless of the market cap of each company.
ETF Sector Bets
As an equal-weight ETF, RSP frequently has sector allocations that differ from the cap-weighted S&P 500. For instance, RSP's three largest sector weight are industrials, financial services and technology. RSP's technology weight of almost 13% is well below the 20.51% the cap-weighted S&P devotes to that sector.
“As a result of the fund's weighting approach, it makes persistent sector bets that won't always pay off,” said Morningstar. “Compared with its Morningstar Category peers and the S&P 500, the fund has higher industrials, real estate, and utilities sector weightings. And the technology sector represents its largest underweighting. Equal-weighting also injects a slight value tilt, because when the fund rebalances each quarter, it trims stocks that have outperformed their peers and adds to names that have underperformed and likely gotten cheaper.”
RSP's value tilt is slight as stocks with the value designation account for just under 37% of the fund's weight. Critics often assert that out-performance delivered by equal-weight strategies is more attributable to the size factor. The average market value of RSP's holdings is $48.93 billion compared to nearly $231 billion in cap-weighted S&P 500 ETFs.
Morningstar has a Bronze rating on RSP.
For more on smart beta ETFs, visit our Smart Beta Channel.
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