Upcoming Tech IPO Wave Poised to Reshape Risk Dynamics for Passive Index Investors

Key Points

• Multiple prominent initial public offerings are anticipated this year and will automatically meet eligibility criteria for inclusion in several market indices.

• Many index funds are designed to offer lower risk, yet the addition of these IPOs could shift that risk profile post-inclusion.

• Index investors may benefit from seeking genuine value-oriented alternatives to mitigate potential volatility.

Among the most significant debates following the Space Exploration Technologies (NASDAQ: SPCX) initial public offering (IPO) — and arguably the most pertinent to the investment community — is the effect of such listings on index investors.

Although the SpaceX IPO ranked as the largest in history and was heavily oversubscribed, numerous investors, including myself, would avoid it entirely. This stance becomes complicated, however, because many value-oriented investors incorporate passive index strategies as a core or complementary component of their portfolios.

Given that SpaceX debuted as one of the world’s most valuable companies, it is slated for addition to numerous indices and the funds that track them. Indeed, this process is already underway: the company joined the Russell 1000 index at the end of June, merely two weeks after listing, compelling tracking funds to acquire SpaceX shares to mirror the revised composition. As of this writing, two Vanguard exchange-traded funds (ETFs) that follow the Russell 1000 — the Vanguard Russell 1000 ETF (NASDAQ: VONE) and the Vanguard Russell 1000 Growth ETF (NASDAQ: VONG) — have yet to list it as a holding.

Image source: Getty Images.

SpaceX is also being expedited into the Nasdaq-100, meaning the Invesco QQQ Trust ETF (NASDAQ: QQQ), one of the globe’s largest ETFs, will likewise be required to hold the stock.

With two additional high-profile IPOs expected later this year, the landscape for index investors may be undergoing a fundamental shift.

Do IPOs alter this low-risk investing approach?

Vanguard assigns a four-out-of-five risk rating to most of its index-tracking ETFs, which appears elevated. Its lower ratings are reserved for bond ETFs, while higher-risk equity ETFs receive a five. This indicates an acknowledgment of inherent risk across nearly all stock ETFs — a characteristic by design. The following context may explain why.

Passive index investors often regard the strategy as a low-risk avenue to wealth accumulation. The S&P 500 has delivered an annualized average return of 11.4% over the past two decades, and utilizing a low-cost index ETF to gain exposure — rather than attempting to outperform the market — diminishes the hazards of single-stock ownership while enabling capital growth.

SpaceX is already trading, but under existing rules it remains ineligible for the S&P 500 for at least another year. Nevertheless, Anthropic and OpenAI are preparing substantial IPOs later this year and are expected to rank among the most valuable firms almost immediately.

Investors have a window to reassess their allocations. Weighted ETFs such as the Vanguard S&P 500 ETF (NYSEMKT: FLIGHT) are inherently growth-tilted, and these weighty IPOs could amplify their risk. Those depending on such funds for stability may wish to diversify into genuinely low-risk instruments, like bond or value ETFs. For instance, the Russell 1000 value index does contain SpaceX, but because it was categorized as 90% growth and 10% value, it will constitute only a minor portion of the Vanguard Russell 1000 Value ETF (NASDAQ: VONV) once added.

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