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December 18, 2020

How will the Addition of Tesla Affect the S&P 500’s Fundamentals?

by David Aurelio.

The S&P 500 Composite Index (.SPX) will add Tesla Inc. (TSLA.O) on Dec. 21. The electric vehicle (EV) maker’s addition will be accompanied by the removal of Apartment Investment and Management Co (AIV.N), which is part of the Residential REITs sub-industry. Once added, Tesla will become one of the largest holdings in the S&P 500. We look at how these changes will affect expectations for the S&P 500.

Exhibit 1: Tesla (TSLA.O) vs. S&P 500 (.SPX) vs. Russell 1000 (.RUI) Year-to-Date (YTD) total returns

Source: Eikon from Refinitiv

Despite the COVID-19 pandemic, as of the Dec. 16, 2020 close, the S&P 500’s YTD total return stands at 14.6%, while the Russell 1000, which counts Tesla as one of its constituents, has a YTD total return of 17.1%. At $622.77 per share, Tesla boasts a whopping 644.4% YTD total return. This positions Tesla to have the highest YTD total return within the S&P 500, bumping ETSY Inc (ETSY.O) (311.6%) into second. These gains have brought Tesla’s market cap to $590 billion and will result in it being the sixth-largest holding within the S&P 500, accounting for roughly 1.5% of the index.

While Tesla’s weight is expected to be roughly 1.5% in the S&P 500, its revenue and earnings are far less substantial. Tesla will account for 12% of the consumer discretionary sector and 78% of the automobile industry. However, Tesla’s revenue is expected to account only for 0.3% of the S&P 500’s 2021 revenue, 2.0% of the consumer discretionary sector’s and 12.3% of the automobile industry’s. The EV maker’s 2021 EPS is expected to account for 0.2% of the S&P 500, 2.6% of the consumer discretionary sector and 20.2% of the automobiles industry.

Exhibit 2: Bottom-Up EPS and 2021 P/E for S&P 500 with Current Constituents vs. Tesla Inclusion

Source: I/B/E/S data from Refinitiv

Note: EPS represents the earnings per share contribution to the S&P 500 index.

The addition of Tesla to the S&P 500 will result in a reduction to EPS, due to Tesla’s high market cap to earnings ratio. For example, TSLA’s price to 2021 earnings is 161.3. The index is expected to see 2021 earnings fall 1.3% to $168.84 per share. Earnings for the consumer discretionary sector are forecasted to increase 1.1% to $13.33 per share and there is an anticipated 23.5% increase to $1.72 per share for the automobiles industry. As a consequence of these reductions to earnings, price to 2021 earnings will increase 1.4% to 22.2 for the index, 10.7% to 35.1 for the sector, and 410.3% to 38.7 for the industry.

Exhibit 3: Y/Y Growth Rates for the S&P 500 with Current Constituents vs. Tesla Inclusion vs. Tesla

Source: I/B/E/S data from Refinitiv

While the addition of Tesla to the S&P 500 increases the index’s P/E ratio by roughly 1.4%, Exhibit 3 shows that, due to the low revenue and earnings weights, there is little impact on the index’s year-on-year (Y/Y) revenue and earnings growth rates.

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