To The Moon

July 7th, $NASDAQ(.IXIC)$ announced its preparation for a "Special Rebalance" in order to address the issue of excessive concentration caused by the continuous rise of several technology giants.

American investors refer to the combination of these major tech giants as the "Magnificent Seven," which includes $Microsoft(MSFT)$ with a year-to-date increase of 38.6%; $Apple(AAPL)$ 44.8%, $NVIDIA Corp(NVDA)$ with 190.2%, $Tesla Motors(TSLA)$ with 119.0%, $Alphabet(GOOG)$ and $Alphabet(GOOGL)$ with 32.7%, $Meta Platforms, Inc.(META)$ with 147.9%, as well as $Amazon.com(AMZN)$ with 53.3%. These companies have accounted for the rise in the $NASDAQ 100(NDX)$ this year.

Nasdaq 100 vs Nasdaq 100 Equal Weighted Index

Explanation of Adjustments in the Nasdaq 100 Index Compilation Rules

Investors need to understand that the constituent stocks of the NASDAQ-100 Index undergo weight adjustments on a quarterly basis according to the index composition rules.

The "Special Rebalance" will take place before the market opens on Monday, July 24th, and will only change the weights without adding or removing any stocks. The weight changes will be announced on Friday, July 14th, making these two trading days crucial for investors.

NASDAQ has only conducted special rebalances twice in its history, in December 1998 and May 2011.

The adjustment of constituent stocks is announced annually, generally in early December, and takes effect after the close of trading on the third Friday of December. The NASDAQ-100 Index adopts a modified market capitalization weighting method for weight distribution, with weight adjustments occurring in March, June, September, and December based on the total outstanding shares and closing prices at the end of February, May, August, and November, respectively.

To prevent excessive concentration of individual stock market capitalization leading to an over-concentration of index weights, the rules state that

if the initial weight does not exceed 15%, it will be used as the first-stage weight. Otherwise, the initial weight will be adjusted to below 14% and regenerated.

To prevent excessive concentration of top stocks,

if the combined weight of stocks with weights exceeding 4.5% in the index is above 48%, NASDAQ will rebalance the index until their total weight in the index does not exceed 40%.

Additionally, in annual weight adjustments, if the total weight of the top 5 constituent stocks exceeds 40%, the weights of the top 5 stocks will be set at 38.5%, and the weights of stocks beyond the top 5 cannot exceed the weight of the 5th largest stock or 4.4%, whichever is smaller.

The impact of the special rebalance on the current index

As of July 7th,

• Microsoft had a weight of 12.9% in the NASDAQ-100 Index, ranking first.

• Despite Apple's higher market capitalization, its weight was 12.5%. The combined weight of Google GOOGL and GOOG categories was 7.4%,

• followed by NVIDIA with 7%, Amazon with 6.9%, and Tesla and Meta with 4.5% and 4.3% respectively.

Based on the current situation, the weights of Meta and Tesla are exactly on the 4.5% threshold, but they will still be taken into account in this special rebalance.

If only the proportions of the other 5 major companies are adjusted downward, their weights will be increased, resulting in a total weight of companies above 48% with weights exceeding 4.5%.

Therefore, the weights of all these 7 companies will be reduced.

We simulated the adjusted weights based on the closing market values on July 7th, and the most significant impacts were as follows:

Firstly, big tech companies. Microsoft's weight will be reduced the most, expected to reach 3.63%, down from the previous weight of 9.07%. NVIDIA's weight will be reduced by 3.14%, followed by AMZN, META, AAPL, and GOOGL/GOOG (combined -1.83%).

However, compared to the previous weights, NVDA will be the biggest loser, with its weight reduced by almost half.

According to the current rules, if the total weight of these 7 companies is reduced back to 40%, the remaining 94 companies will have a weight of 60%.

Since the previous adjustment benchmark was the closing on May 30th, companies that have performed well since June will experience the greatest increase in this special rebalance.

The biggest beneficiaries will be $Airbnb, Inc.(ABNB)$ $Atlassian Corporation PLC(TEAM)$ $Adobe(ADBE)$ $Cisco(CSCO)$ $Pepsi(PEP)$ . Even companies like $Activision Blizzard(ATVI)$ which may be removed from the index soon due to an acquisition, should not be overlooked by passive index funds.

Other Impacts of Special Rebalance

In terms of fund flows, index funds must passively sell stocks with reduced weights, typically within 1-3 trading days, while active funds have more flexibility and may take advantage of the situation to make purchases.

However, given the current dominance of quantitative trading in the market, significant short-term volatility cannot be ruled out, which may trigger some orders that would not have been necessary otherwise, resulting in large daily fluctuations and greater impact.

From a fundamental perspective, investors may anticipate that the $S&P 500(.SPX)$ will also adjust its plans accordingly, which would lead to more passive fund adjustments.

It must be said that NASDAQ's timing for this special rebalance is incredibly opportune, coinciding with the Q2 earnings season when major weighted stocks will be announcing their earnings. Therefore, any unexpected volatility caused by the special rebalance may be overshadowed by the active trading around earnings releases.

Regarding industries and sectors, we believe that second-tier growth tech companies that have performed well recently may experience a dual boost in sentiment and fundamentals, especially in industries such as entertainment and travel that have recently seen upward guidance. Relevant stocks in these sectors should be given particular attention. $Netflix(NFLX)$ $Booking Holdings(BKNG)$