CICC Global Strategy: "Special Rebalance" Puts a Light Brake on the US Tech Market

According to the information obtained from the Zhītōng Finance APP, Xingye Securities has released a research report stating that in the volatile market, the US stock index in the third quarter faces a dilemma, and there is a risk of adjustment in the fourth quarter as the US economy weakens. The AI-led technology sector will continue to expand in the medium to long term, but in most stages of the second half of the year, the technology sector is expected to remain volatile and wait for new technological advancements or improved profitability. Be cautious of the risk of adjustment in the technology sector due to the weakening of the economy and the increase in risk premium in the fourth quarter. That may be a better opportunity to buy on dips in the second half of the year.

Xingye Securities stated that on the evening of July 7th local time, Nasdaq announced that the Nasdaq 100 Index will undergo a "Special Rebalance" before the market opens on Monday, July 24, 2023. According to the index compilation rules, the "Special Rebalance" reallocates weights to address the problem of excessive concentration of weights in the index, but it does not result in the removal or addition of securities. The adjustment is based on the number of outstanding shares as of July 3rd.

According to the index compilation rules, if the combined weight of the weighted companies (companies with weights exceeding 4.5%) in the index exceeds 48%, Nasdaq will limit the weight adjustment of the relevant weighted companies, and the combined weight of the relevant weighted companies in the index will be adjusted to no more than 40%.

As of July 3rd, in the Nasdaq 100 Index, Microsoft (MSFT.US), Apple (AAPL.US), NVIDIA (NVDA.US), Amazon (AMZN.US), Tesla (TSLA.US), and Google (GOOG.US) have weights exceeding 4.5%, with a combined weight of 51.2%, exceeding 48%. Therefore, the weights of these six companies are expected to be reduced, while Meta has a weight below 4.5% and may not require adjustment. After the expected adjustment, technology giants such as Apple, Microsoft, and Amazon will still dominate this index.

Xingye Securities believes that under the AI wave, the soaring stock prices of the seven major technology stocks have led to excessive concentration of weights in the Nasdaq 100 Index. As of July 21, 2023, driven by the AI wave, the Nasdaq 100 Index has risen by 41% in 2023, with NVIDIA, Apple, Microsoft, Meta, Amazon, Tesla, and Google accounting for 74.6% of the index's driving force. This has resulted in a high concentration of weights in the market-cap-weighted index - the Nasdaq 100 Index constituents, with the weights of the seven major technology stocks accounting for as much as 54.7% as of July 21.

The short-term "Special Rebalance" may bring selling pressure to the relevant companies, but the impact will not be significant. After the adjustment of the Nasdaq 100 Index, heavyweight index-tracking ETFs such as Invesco QQQ will also need to adjust their holdings accordingly. As of July 21, 2023, Invesco QQQ, which tracks the Nasdaq 100 Index, has assets under management of as much as $208.89 billion. However, this rebalancing strategy itself is unlikely to have a profound impact on the performance of the Nasdaq 100 Index and related companies in the future. In history, the Nasdaq 100 Index has undergone two "special rebalances", which occurred in December 1998 and May 2011. However, these two "special rebalances" did not result in significant adjustments to the Nasdaq 100 Index. Additionally, during the May 2011 adjustment, Apple's weight in the index exceeded 20%, and its weight was significantly reduced. After Apple's stock price announcement on April 5th, the maximum drawdown reached -4% by April 15th, followed by a substantial rebound. On the adjustment day, May 2nd, the index dropped by 1.1%, but it had a 1.5% increase compared to the announcement day, and the stock price did not show a significant decline thereafter.

Risk Warning: Risks of great power competition; Unexpected tightening of US Federal Reserve policy; US economic downturn beyond expectations.