NVIDIA: Dividing and Conquering or Time to Split?

Additional content provided by Kent Cullinane, Analyst, Research.

NVIDIA Becomes Second Most Valuable Company in the World 

In today’s blog, we examine the big stories surrounding semiconductor manufacturer NVIDIA (NVDA); its recent stock split, and its continued dominance in the artificial intelligence (AI) space, leading the chipmaker to become the second-most valuable publicly traded company in the world by market capitalization (cap). 

NVDA recently surpassed a $3 trillion market cap, ousting Apple (AAPL) as the second most valuable company in the world, trailing only Microsoft (MSFT). The announcement of a 10-for-1 stock split during NVDA’s first quarter earnings call was positively received on Wall Street, boosting the stock to new record highs.  NVDA now trails MSFT by roughly $180 billion in market cap. Given NVDA’s dominance in the nascent AI space, it may be only a matter of time before NVDA surpasses MSFT to become the most valuable company in the world. 

An Impressive 2024 Propels NVIDIA Past Apple with Microsoft in its Sights

Market Caps of MSFT, NVDA, and AAPL Since 2021 

Source: LPL Research, FactSet 06/10/24
Disclosures: Indexes are unmanaged and cannot be invested in directly. Past performance is no guarantee of future results. 

Do Stock Splits Lead to Outperformance? 

Stock splits are thought to be worthwhile to companies to increase liquidity, and academic studies have shown some liquidity benefit exists, but this mainly benefits smaller retail investors, who only make up 10% of the trading volume in the S&P 500 Index. As such, for most stocks, the impact on trading volumes is normally limited. Notable recent exceptions have included NVDA in 2021 (4-for-1) and Amazon (AMZN) in 2022 (20-for-1), which saw retail investors share of trading volume increase 7%.

A recent study by Goldman Sachs found that when examining the 45 splits that have occurred to Russell 1000 stocks since 2019, these stocks outperformed the equal-weighted S&P 500 Index by an average of 4% during the week following the announcement. This is a far cry from NVDA’s 27% gain since the chipmaker announced its latest stock split alongside its earnings release on May 22 but may add credence to the suggestion that the stock split has somewhat aided this stellar performance. 

In a riff on the well-worn market expression “Buy the rumor, sell the news”, stock splits appear to exhibit behavior that would encourage investors to “buy the announcement, sell the split” as after splits took effect no pattern of outperformance was visible, according to Goldman’s analysis. As was the case in the NVDA scenario, it’s worth remembering that many stock splits are announced in conjunction with earnings, so attributing the driver of stock moves between the split and the earnings is difficult. 

How Will NVIDIA Passing Apple’s Market Cap Impact Indexes and Exchange-Traded Funds?

If NVDA continues to exceed AAPL in market cap, indexes and exchange-traded funds (ETFs) that track both stocks will have to adjust the ordering of these constituents in their index calculation methodologies (that were designed to reduce concentration in a small number of stocks). For example, the Technology Select Sector Index is a market-cap float-adjusted index that is used by the largest S&P 500 sector ETF to track stocks within the S&P technology sector. The Technology Select Sector Index has a capping rule that prevents any one stock from exceeding 24% of the index weight and the combined two largest stocks from exceeding 50% of the index weight. Any remaining stocks with a weight greater than 5% are capped at 4.5%, with the excess weight redistributed proportionally among the remaining uncapped stocks. 

What this means is that the Technology Select Sector Index today has MSFT, AAPL, and NVDA as the three largest constituents in the index. At the last quarterly rebalance, MSFT and AAPL made up a combined 50% of the index, meaning NVDA’s weight could not exceed 4.5%, even though its market cap weight was closer to 17% of the index. As part of the quarterly rebalance, assuming NVDA continues to have a larger market cap than AAPL, NVDA would move to the second-largest constituent and could therefore observe its weight move from 4.5% to around 20–25% of the index. Any ETFs tracking this index will have to purchase NVDA and sell AAPL to account for the capping difference. 

Markets Continue to Ride AI Boom, Although Breadth Remains Weak 

NVDA’s impressive year-to-date (YTD) rally has helped propel the S&P 500 to new highs, with the S&P up 12%. While NVDA has contributed meaningfully to the S&P’s rise YTD, breadth across the other S&P constituents has been weak, as the S&P 500 Equal Weight Index is only up 3% YTD. Divergence in performance between the S&P 500 market weight and equal weight was notable right around NVDA’s earnings call on May 22. 

S&P 500 at New Highs but Breadth Remains Weak 

Year-to-date Performance of S&P 500 and S&P 500 Equal Weight Index 

Source: LPL Research, FactSet 06/10/24
Disclosures: Indexes are unmanaged and cannot be invested in directly. Past Performance is no guarantee of future results. 

Outlook 

Given the likelihood of NVDA remaining ahead of AAPL in market cap, it is possible the NVDA rally may continue as ETFs are forced to increase their exposure to the chipmaker at their next rebalance. The LPL Research Strategic and Tactical Asset Allocation Committee (STAAC) remains neutral on technology on a tactical basis relative to other sectors. It is a favorite among neutral sectors, but stretched valuations temper our enthusiasm for strong technical trends. In our Tactical Asset Allocation (TAA) model, the STAAC does maintain a slight tactical preference towards large cap growth stocks given the earnings dominance of growth companies, as the (NVDA chip-fueled) AI buildout accelerates, and lower interest rates favor the growth style.