Nvidia is starting to act like its own asset class

By Joseph Adinolfi

Correlation between shares of the chip designer and the average S&P 500 stock hits lowest level in at least 10 years

Shares of Nvidia Corp. are growing increasingly disconnected from the average stock in the S&P 500 index, prompting one analyst to quip that the chip designer is starting to behave like its own asset class.

According to a MarketWatch analysis of FactSet data, the rolling 100-day correlation between Nvidia Corp. (NVDA) and the Invesco S&P 500 Equal Weight ETF RSP sank as low as 0.075% last week - its lowest in at least 10 years, and two standard deviations below the long-term average.

"That tells you all you need to know about Nvidia. It is becoming its own asset class," said Nicholas Colas, co-founder of DataTrek Research, during an interview with MarketWatch on Tuesday.

The RSP ETF tracks an equal-weighted version of the S&P 500, which offers a better representation of how the average stock in the index is performing.

On the other hand, Nvidia's correlation with the market-cap weighted index remains just below the average from the past 10 years.

But that doesn't invalidate the significance of Nvidia's weakening relationship with the equal-weighted index, Colas said. Instead, focusing on Nvidia's increasingly distant relationship between the two underscores what is for some an unfortunate fact of life in modern-day markets.

"Market leadership is a small club. Either you're a member, and life is good, or you are on the outside looking in," Colas said.

Noah Hamman, the CEO of AdvisorShares, elaborated on this point during an interview with MarketWatch. He said that the relentless rally in megacap names like Nvidia, Apple Inc. (AAPL) and Microsoft Corp. (MSFT) is increasingly dividing the stock market into camps of winners and losers.

"You really do have this disparity between haves and have nots that we haven't seen in a while," Hamman said.

The winners' growing influence on the S&P 500 has helped shrink the ratio between the equal-weighted S&P 500 and its capitalization-weighted sibling, which allots a heavier weighting to larger stocks, to the smallest level since November 2008, FactSet data show.

It isn't just Nvidia's correlation with the average large-cap stock that has weakened. As tech stocks increasingly pull ahead of their rivals, longstanding correlations between tech and cyclical sectors like consumer discretionary and financials are also breaking down.

The correlation between the Technology Select Sector SPDR Fund XLK and the Consumer Discretionary Select Sector SPDR Fund XLY fell as low as 0.61 in June, the lowest level since November 2021 and two standard deviations below the 10-year average.

The tech ETF's relationship with the Financial Select Sector SPDR ETF XLF also touched its lowest level since 2021 last month.

It isn't hard to see why: so-called megacap stocks, led by Nvidia, provided virtually all of the S&P 500's advance during the second quarter, according to an analysis of stock-market data from a team of strategists at John Hancock Investment Management.

The team found that just 10 companies accounted for all of the S&P 500's 4.3% advance during the second quarter, and then some - offsetting an aggregate decline for shares of the other 490 companies in the index. Nvidia, Apple and Microsoft were the three biggest contributors from the group, but it also included a handful of companies, like Amazon.com Inc. (AMZN), Eli Lilly & Co. (LLY) and Costco Wholesale Corp. (COST), that are outside of the tech sector.

See: The S&P 500's reliance on a few winning stocks is getting worse

Understanding the level of correlation between different stocks and asset classes in one's portfolio is important because it offers a glimpse into how diversified the portfolio truly is, strategists say. As it stands, the S&P 500's increasing dependence on megacap stocks leaves investors who own index-tracking funds abnormally exposed to idiosyncratic risks affecting those stocks. In a way, that counteracts some of the purpose of owning a diversified portfolio.

Nvidia hasn't been the best-performing stock in the S&P 500 on a purely percentage-point basis so far this year. That honor belongs to fellow artificial-intelligence darling Super Micro Computer Inc. (SMCI), which is up nearly 200% since Jan. 1, compared with a nearly 150% gain for Nvidia as of Tuesday's close.

However, the magnitude of the chip designer's advance, combined with its already considerable heft - as of Tuesday, it was the third-largest U.S. company by market capitalization, according to FactSet - has made it the biggest individual contributor to the large-cap index's gains in 2024 through the end of the second quarter.

Although the third quarter is still in its early days, investors appear to be picking up right where they left off, as the technology sector has continued to lead the market's charge higher. The Nasdaq Composite COMP gained 149 points, or 0.8%, to close at 18,028.76 on Tuesday - a fresh record high, FactSet data show.

The S&P 500 SPX also finished in record territory, gaining 33 points, or 0.6%, to 5,509.01. The Dow Jones Industrial Average DJIA rose by 162 points, or 0.4%, to 39,331.85.

-Joseph Adinolfi

This content was created by MarketWatch, which is operated by Dow Jones & Co. MarketWatch is published independently from Dow Jones Newswires and The Wall Street Journal.

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07-03-24 0816ET

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