SpaceX-Driven ETF Distortions... "The Era of 'Set and Forget' Index Investing Is Over"

Global Asset Manager Franklin Templeton

"ETFs Remain an Efficient Tool,

But Knowing Where You’re Investing Has Become Crucial"

With a series of IPOs on the horizon for companies that have expanded significantly in the private market—such as SpaceX, OpenAI, and Anthropic—concerns are mounting in the exchange-traded fund (ETF) market. The worry is that as soon as these companies are included in major indices, passive funds that replicate those indices will be mechanically funneled in, potentially distorting the indices themselves.

On June 18, global asset manager Franklin Templeton stated, "Investors should not just focus on IPO news or surface-level company valuations, but must accurately understand the real exposure—or level of risk—associated with their holdings."

The key advantage of index ETFs has been the ability to diversify across the entire market at low cost without having to select individual stocks. However, Franklin Templeton challenged the conventional wisdom that "once you buy an ETF, you can forget about it."

Scaling Up in the Private Market, IPO Debut... New Challenges for the Indices

In the past, most corporate growth took place primarily in the public markets, but there is now a clear trend toward that growth shifting to the private market. As a result, more companies are reaching maturity even before their IPOs.

This shift has created new challenges for the traditional method of index construction. As the IPOs of SpaceX, OpenAI, and Anthropic become more likely, index providers have begun to discuss in earnest how quickly to include these major IPO companies in their main benchmarks.

FTSE Russell and Nasdaq move swiftly to add next-generation large-cap IPOs to their benchmarks, while S&P Dow Jones Indices has maintained its existing cautious inclusion criteria and qualifications.

Franklin Templeton characterized this divergence in approach as "a healthy sign of balancing the need to reflect index trends with the need for stability and liquidity."

Even at a $1.5 Trillion Valuation, Index Weight Is Just 0.11%

However, Franklin Templeton emphasized that "headline valuations and the actual weighting in the index are completely different." This is because most major stock indices are based on the "free float-adjusted market capitalization" method, which only considers shares that are actually available for trading in the public market.

According to FTSE Russell’s internal analysis ahead of the SpaceX IPO, the company’s total market capitalization was estimated at $1.5 trillion, but its free float-adjusted market capitalization—shares actually available for trading—was only about $70 billion. Based on this, SpaceX’s expected weighting in the Russell 1000 Index was projected to be just 0.11%, and 0.08% in the FTSE GEIS Developed Markets Index.

The issue is that these initial weightings are not fixed. Even if a company debuts to widespread media attention, its index weighting may start off relatively small. However, once lockup periods for founders, employees, and early investors expire, more shares may enter the public market, causing the index weighting to gradually increase.

Even if a wave of IPOs occurs among companies in AI, aerospace, and cloud infrastructure, it does not mean that the entire index will immediately shift to a growth stock focus.

This is because index calculation methods follow much more granular criteria than public perception. IPOs subject to "fast entry" (early inclusion of newly listed stocks) continue to follow the assigned sub-sector classifications until concrete financial data is available.

For example, in FTSE Russell’s pre-IPO classification, SpaceX was grouped into the communications sector, where the average breakdown is 18% growth stocks and 82% value stocks. This means that public perception of "space and AI innovation companies" can differ greatly from their actual classification inside the index.

"It's Time to Move On From 'Set and Forget' Index Investing... Know Exactly What Your ETF Holds"

Dina Ting, Global Head of Index Portfolio for ETFs at Franklin Templeton, remarked, "As companies that have grown sufficiently in the private market go public, the existing framework for company style classifications is also at a crossroads."

She noted, "Broad-market index ETFs remain an efficient and effective way to achieve diversified equity exposure, and country or style ETFs help facilitate more granular investing." However, she also emphasized, "Since indices are not static—new companies enter, free float changes, and certain sectors can become overweight—index investing is no longer suited to a 'set and forget' approach."

Ting stressed, "With a series of major IPOs imminent, it has become critically important to 'know what you own.' Investors should pay close attention to how large companies will reshape benchmark index exposures in the future."

This content was produced with the assistance of AI translation services.