Nasdaq 100 vs S&P 500 - Which is better for investing (2024)

If you want to invest in US stock markets through mutual funds, you will typically find that most funds benchmark their performance against the Nasdaq 100 or the S&P 500 index. Even the passive funds offered by Indian mutual funds are funds that track one of the two indices. This is likely because the Nasdaq 100 and S&P 500 are among the oldest and most followed benchmarks in the US stock markets.

are both popular large-cap heavy indexes, and you'll find some similar names in their top positions, but at the same time they're quite different from each other in terms of the number of companies they track, their weights and sector allocation. This has resulted in a difference in the performance of the two indices over different periods of time. Therefore, if you want to invest in any of the funds that track these indices, it is useful to understand the construction of these indices.

In this blog we explain what you get if you choose to invest in funds that track the Nasdaq 100 or the S&P 500 index, and how they differ in terms of performance and portfolio. This helps you choose the fund that suits your risk and return profile.

What is the S&P 500 Index?

Launched in 1957, the S&P 500 is one of the oldest indices in the United States. The index consists of shares of the 500 largest listed American companies. These companies together represent more than 80% of the total market capitalization (total number of shares of a company multiplied by the number of shares) of companies listed on the American stock exchange. Therefore, the S&P 500 index can be considered a broad indicator of the US stock markets.

The weighting of companies included in the index is based on their market values. The higher the market value, the higher the weighting of the share in the index. The market value of the shares is calculated by multiplying the number of shares available for trading on the stock exchange by the company's share price. Besides market capitalization, there are other stock selection criteria such as the percentage of shares available for public trading, earnings growth, trading volume (stock price multiplied by the number of shares traded), etc. It also ensures that the sector is in equilibrium. in line with the total market capitalization of the listed companies, so that no sector has a disproportionately high weight in the index.

Although the top holdings include major tech companies like Apple and Microsoft, the allocation to the sector combined is less than 30%. Companies from the top three sectors together account for approximately 53% of the index portfolio, which is much lower compared to the Nasdaq 100.

Below are the top 10 holdings of the S&P 500 Index, which have the highest market capitalization of all stocks in the S&P 500.

With approximately 500 stocks, the index represents more than 11 sectors, including information technology, energy, materials, industrials, consumer staples, consumer staples, healthcare, financial services, communications services, real estate and utilities. A large number of 500 stocks in the index ensures that the portfolio is not strongly biased toward a particular sector or stock.

The following table shows the top sectors represented in the S&P 500 index.

What is the Nasdaq 100 Index?

The Nasdaq 100 index was launched in 1985 and represents the 100 largest non-financial companies listed on the Nasdaq stock exchange.

The United States is home to some of the largest financial and technology companies. The exclusion of the financial biggies means that the Nasdaq 100 is dominated by global technology giants, including Apple, Google, Microsoft, Tesla, etc. These companies are world leaders in the technology and innovation sector. The Nasdaq 100 also includes the popular FAANG stocks (Facebook, Apple, Amazon, Netflix, Google or Alphabet) of the largest technology companies in the world. Technology companies collectively account for more than half of the index's shares. The dominance of technology stocks in the index makes it a narrower index with a lot of technology.

The following table shows the top 10 holdings of the Nasdaq 100

The Nasdaq 100 index is widely recognized as a technology index, but also includes Pepsi and Starbucks; however, the subsidy is not very high.

The following table shows the top sectors in the index.

S&P 500 Index vs. Nasdaq 100 Performance

The Nasdaq 100 has significantly outperformed the S&P 500 in terms of performance. Over the past fifteen years, the Nasdaq 100 has achieved a CAGR of approximately 16%, while the S&P 500 has returned approximately 8%.

The following chart shows that if you had invested in the S&P 500 or the Nasdaq 100 at the beginning of any month over the past 15 years and held those investments for 10 years, this is what your returns might have looked like. The Nasdaq 100 has outperformed the S&P by a wide margin.

The Nasdaq 100's average ten-year return over those fifteen years was about 9%, while the S&P 500's return was about 5%. You could have achieved a CAGR return of up to 21% over 10 years by investing in the Nasdaq 100, while in the case of the S&P 500 you could have achieved a maximum return of 14% over the last 15 years.

The returns of the Nasdaq 100 are nothing short of impressive, but the fact that most of those returns come from a few stocks may not be appreciated by many investors, especially those who want better downside protection. Because the Nasdaq 100's portfolio is concentrated in technology stocks, including FAANG stocks, the index's performance is primarily driven by these stocks. If the tech sector experiences turmoil, the Nasdaq 100 will likely be hit harder, as we have seen in the past. When the dot-com bubble burst in 2002, the Nasdaq 100 corrected about 38%, while the S&P 500's decline was limited to 23%.

Therefore, the volatility of the Nasdaq 100's returns is likely higher than that of the S&P 500. Even during the 2008 correction, the Nasdaq 100 index's decline was 42%, while the S&P 500 was limited to 38%.

Rally in Nasdaq 100 driven by FAANG stocks

FAANG stocks account for about 30% of the stocks in the Nasdaq 100 index, while their allocation in the S&P 500 is about 14%. FAANG stocks have done well over the past five years. The renewed focus on technology post-pandemic has supported tech companies' earnings growth. These stocks have been disruptive because they have changed the way people shop, work and play. Good earnings growth and good prospects have made the past five years among the best for technology stocks in the past decade. The following table shows the CAGR returns of the FAANG stocks over the past 5 years. The CAGR return was between 23 and 40%.

The significantly higher allocation to FAANG stocks has helped the Nasdaq 100 easily outperform the S&P 500 index. The following chart shows the contribution of FAANG stocks to the performance of the Nasdaq 100, assuming the allocation was previously held at the current level of 30%.

Choose between Nasdaq 100 and S&P 500

The numbers clearly show that despite a higher correction, the Nasdaq 100 has significantly outperformed the S&P 500 index in terms of long-term returns. Due to a preference for technology stocks, the Nasdaq 100 looks more like a thematic index. Because the FAANG stocks, which make up the majority of the Nasdaq 100's portfolio, have already surged, they may have a hard time sustaining, for example, moving forward, and if there is a correction in the markets, they will too. are likely to be hit harder than previously seen.

Therefore, downside risk is likely greater in the case of the Nasdaq 100 compared to the S&P 500 index, which has a much broader representation of US companies across different sectors.

So if you want to own a more diversified stock, the S&P 500 is the right choice for you. But those who are comfortable with the slightly higher risk of the additional returns that investing in Nasdaq 100-based funds can generate will be better off with the Nasdaq 100.

Choose the index based on your own risk and return profile.

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