Last week, Lyft had one of the highest-profile initial public offerings (IPOs) in recent years, and the ride-hailing company closed the day with a $26 billion market capitalization, up 9% from its opening price.
Yet in recent years, some investors have increasingly shifted from owning stocks directly to using ETFs to gain exposure to the U.S. equity market. With most of these funds tracking an index, it’s important to understand the underlying index’s inclusion criteria, because it could be at least a year before LYFT, or other soon-to-be-public-yet-well-known companies, end up inside.
Indexes managed by S&P Dow Jones are tracked by many popular U.S. equity ETFs that provide broad market coverage as well as narrower style or sector strategies.
Yet each of these indexes has unique methodologies, and don’t necessarily treat IPOs the same. Let’s review some examples.
S&P 500 Index & Related Smart-Beta Indexes
As their names suggest, the three largest ETFs— the iShares Core S&P 500 ETF (IVV), the SPDR S&P 500 ETF Trust (SPY) and the Vanguard 500 ETF (VOO)—track the same index, and Lyft’s recent market capitalization is above the $8.2 billion minimum market-cap criteria.
However, the committee behind the S&P 500 requires that IPOs season on an eligible exchange for at least 12 months before being considered for addition to the index. So, investors in IVV, SPY and VOO would need to wait till 2020 at the earliest to own Lyft.
Broad Market Indexes
S&P Dow Jones Indices also manages the S&P Total Market Index, tracked by the $18 billion iShares Core S&P Total U.S. Stock Market ETF (ITOT) and the Dow Jones US Total Stock Market Index, tracked by the $14 billion Schwab U.S. Broad Market ETF (SCHB). While these ETFs each hold more than 2,000 securities, they are market cap weighted, and companies with a $26 billion market cap can impact performance.
Currently, IPOs are eligible to be included in both indexes at the next quarterly rebalance if they meet other eligibility requirements. As such, Lyft will likely be found inside ITOT and SCHB by the end of the second quarter.
However, it is possible this will occur sooner, as S&P Dow Jones Indices is in the middle of a consultation to “fast track” the entry of IPOs for these two broad market indexes, but not the S&P 500 or the S&P 1500. If implemented this spring, stocks deemed sufficiently liquid could be added within a to-be-determined handful of days after going public.
Cap-Weighted Or Style-Specific Indexes
While the index criteria for the S&P 500 and the S&P Total Stock Market Indexes are different, inclusion in the Dow Jones Total Stock Market Index makes a stock eligible for many other size and style indexes behind popular ETFs.
For example, the $15 billion Schwab U.S. Large-Cap ETF (SCHX) tracks the Dow Jones US Large Cap Total Stock Market Index and holds the approximately 750 largest companies within the parent index. The lowest-weighted companies have market capitalizations of $5 billion, well below Lyft’s current valuation.
Meanwhile, the $7 billion Schwab U.S. Large-Cap Growth ETF (SCHG) tracks the Dow Jones US Large Cap Growth Total Stock Market Index and holds approximately 400 stocks that exhibit growth characteristics including revenue and earnings increases. It is not yet known whether Lyft would be viewed as a growth company or end up in the $6 billion sibling ETF, the Schwab U.S. Large-Cap Value ETF (SCHV) based on its value traits, but we think growth is more likely.
Growth Style ETFs
However, the IPO would not be eligible for inclusion in the $4.5 billion SPDR Portfolio S&P 500 Growth (SPYG) or the $6 billion iShares Core S&P U.S. Growth ETF (IUSG). These track growth style indices derived from the stocks inside the S&P 500 or S&P 1500 indexes.
In addition, being a constituent of the “500” is also a requirement for the numerous smart-beta-oriented indexes behind other popular ETFs, such as the $15 billion Invesco S&P 500 Equal Weight ETF (RSP) and the $10 billion Invesco S&P 500 Low Volatility ETF (SPLV).