Why EQAL May Be the Key for Next Bull Stock Market

The Invesco ETF’s equal weighting of 1,000 U.S. stocks means it reflects stocks outside of the Magnificent Seven more than the popular SPY.

The SPDR S&P 500 ETF Trust (SPY) is up 18% for the year through Wednesday. But for many stocks, 2023 has been more like 2022 was: a down year. 

Depending from which angle an investor analyzes what has happened within the 1,000 largest stocks (Russell 1000 Index), they may find reasons for optimism or end up in full-fledged risk-management mode. Either way, there is an ETF that makes that type of evaluation much easier to navigate than it was a decade ago. 

In this case, the star of the show is the Invesco Russell 1000 Equal Weight ETF (EQAL). As an investment vehicle, it has garnered only modest support during its nearly nine years in existence, with $577 million in assets. But as a market measure amid an era of Magnificent Seven stock dominance, the other 993 stocks in the Russell 1000 are perhaps the most insightful place equity market watchers can go to truly see where things stand. 

Drilling Down in EQAL

I drilled down to see how those 1,000 stocks (technically 996 as of this writing) look as we approach year end. Because EQAL assigns an equal weighting to each stock, giant companies that might make up several percentage points of SPY’s total assets are all treated the same way here.  

Each stock in EQAL is owned at a 0.10% weighting in the exchange-traded fund at each quarterly rebalancing date. So, it plays no favorites, and that allows us to look at it as reflecting what the “average stock” among much of the total U.S. stock market has done. Here are a few summary points: 

• EQAL’s price-earnings ratio is about 19 times trailing earnings, not particularly cheap. 
• Some 18.5% of the stocks are in the financials sector, by far the largest sector in EQAL. Keep that in mind if we have another banking/financial system breakdown. Technology is second at 9%.  
• EQAL is down 1.0% year to date through Wednesday’s close, a whopping 19 percentage points behind SPY. 
• About 46% of stocks in EQAL are down or flat year to date. So the Magnificent Seven have obscured the actual experience investors have had this year. 
• Now, here’s where the rubber meets the road to me. Since the start of 2022, 64% of the stocks in EQAL are down or flat, and the average stock is down 9%. And, if we go back to Feb. 19, 2020, the S&P 500 top prior to the onset of the Covid-19 pandemic, over 35% of this stock group is down or flat, and the median stock’s total return including dividends was 15%. That’s about 4% a year over nearly four years’ time. 

 
That data helps explain why small-cap investors are still licking their wounds, even after a 5% gain in the iShares Russell 2000 ETF (IWM) on Tuesday, its biggest single-day performance this year. While IWM covers 2,000 different stocks below EQAL’s 1,000 stocks in terms of size, many of EQAL’s holdings are much closer in size to small-cap companies than they are to the tech giants that most influence SPY. 

Stocks' Muted Returns

Based on the data summarized here, it would be fair to conclude that the stock market has languished long enough, and that a few years of muted returns do as much as a market crash to make the U.S. stock market attractive. Yet the alternate conclusion is that we’re not close to starting a new bull phase that can last, with so many stagnant stocks.  

With investors so used to a “number-go-up” environment, stoked by 14 years of suppressed interest rates, the current climate creates a quandary for many professional and retail investors alike. But as they say, that’s what makes a market!