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The day has finally come.

On Monday, Tesla will officially join the S&P 500 in a historic milestone for both parties. With this move, the S&P 500 is extending its biggest invite ever and Tesla is punching its ticket to one of the most exclusive indexes in the stock market.

Here’s what you need to know.

Chart shows Tesla’s stock performance from January to December 2020. Tesla shares jumped 8.2% on November 17, the day after S&P made the announcement that Tesla would be added to the index. Since then, the stock has tacked on another 41%, bringing its 2020 return to 640%.

Stamp of Approval

Joining the S&P 500 is a big deal. Companies have to reach certain financial goals (like four straight profitable quarters) to even be considered, and the index committee hand-picks each company it extends an invite to. It’s a meaningful stamp of approval for any company, especially one with high scrutiny on its operations and management, and it could provide a huge boost to Tesla’s street cred.

Tesla investors are understandably excited. Tesla shares jumped 8.2% on November 17, the day after S&P made the announcement. Since then, the stock has tacked on another 41%, bringing its 2020 return to 640%.

The S&P 500 inclusion could also spark a wave of investment into Tesla. Thousands of exchange-traded funds and mutual funds that track the S&P 500 and S&P 100 indexes will have to buy Tesla shares to account for the new index member. That buying could boost the stock even more.

Pop, Then Flop?

Let’s not get too carried away, though. Tesla’s already seen a big S&P 500 pop, and that could lead to a flop on the other side. We’ve seen that type of short-term action with big companies before.

Take Facebook, for example. S&P announced in December 2013 that Facebook would join the S&P 500. In the eight trading days between the announcement and Facebook’s first day as an S&P 500 member, shares jumped 17%. But in the month after that, Facebook stock dropped 6% as excitement died down. For context, the S&P 500 slid 2% in that period.

Yahoo is another classic example of a post-inclusion bust. Yahoo jumped 50% in six trading days after S&P announced it would add the stock to the S&P 500 on November 30, 1999. A year later, Yahoo shares were down 89% as the tech bubble burst.

It’s typical for stocks to trail the rest of the market after they’re added to the index, according to Bloomberg Intelligence research. Of course, that trend can change over the long-term, but it’s something to watch for with Tesla.

Tesla shares could be especially vulnerable, too. The stock has more than quintupled since the depths of March, and investors have had over a month to mull over their holdings since the S&P 500 announcement. Wall Street is also feeling pessimistic on the stock, with many analysts expecting shares to fall or stay at these levels. Additional offerings of shares in the open market haven’t helped either.

Some investors may see the recent pop as a good chance to take profits.

The S&P 500’s New Look

Let’s talk about the S&P 500’s new look. When Tesla is added, it’ll be the sixth-largest stock in the S&P 500, accounting for almost 2% of the index’s total market cap.

The chart shows the largest 10 companies in the S&P 500 Index. Tesla is ranked #6 with a $590 billion market cap, according to Bloomberg market cap data 12/16/2020.

That’s not a huge slice at first glance. Apple and Microsoft will still be the largest stocks in the index, with weights of 6.4% and 5.0%, respectively. Even so, this switch means your portfolio could look a little different after today. Funds that track the S&P 500 will pick up shares of Tesla and sell shares of the rest of the companies in the index whose market caps are shrinking to make room for the electric vehicle maker. They do this to stay current with the index to make sure they closely track its performance.

Two of those funds include the SPDR S&P 500 ETF Trust (ticker: SPY) and the Vanguard S&P 500 ETF (ticker: VOO). These were among the highest-traded funds on our platform last month. Funds like these could be volatile in trading today as they prepare for a rebalance after the close.

In the medium-term, Tesla’s swings could have a bigger influence under the surface than most other stocks. The stock is being added to the consumer discretionary sector, making the change a big deal for retail-focused investors. Tesla will become part of the same sector as Amazon, retail stores and automakers. While that could be good news eventually, it may lead to more swings as Tesla becomes the second largest stock in the sector, behind Amazon.

Tesla is a volatile stock. It’s moved an average of 4.1% each day this year, compared to the S&P 500’s 1.4% average daily moves. This will likely impact the volatility of the consumer discretionary sector and the funds that track it. One such ETF is the Consumer Discretionary Select Sector SPDR (ticker: XLY).

New-Age Trends

Long-term, Tesla’s addition could be a sign that S&P is eyeing more tech-focused, new-age companies to keep its flagship index relevant.

Down the road, the S&P 500 could start looking like the Nasdaq if society keeps moving online and investors continue to gobble up big tech companies. That could lead to more dramatic ups and downs.

If you own Tesla, remember why you do, and what your plan is. The S&P 500 invite may have fueled the hype, but it likely won’t change Tesla’s company fundamentals. If you don’t, prepare yourself for more market swings, especially if you watch the S&P 500 consumer discretionary sector.

We wish you and yours a very happy holiday! The Weekly Viewpoint will be off for the next two Fridays. See you in the new year

Speech bubble icon next to text "Expert Take"

Headshot of Lindsey BellLindsey Bell is Ally’s Chief Investment Strategist, responsible for shaping the company’s point of view on investing and the global markets. She is also President of Ally Invest Advisors, responsible for its robo-advisory offerings. Lindsey has a broad background in finance, with experience on the buy-side and sell-side, in research and in investment banking and has held roles at JPMorgan, Deutsche Bank, Jefferies, and CFRA Research.

Lindsey holds a passion for teaching individuals how to become successful long-term investors. She is a contributor at CNBC, and frequently shares her insights with various publications including the Wall Street Journal, Barron’s, MarketWatch, BusinessInsider, etc. She also serves on the board of Better Investing, a non-profit organization focused on investment education.