Facebook: the next blue chip stock?

June 10, 2013
June 10, 2013

Herd mentality has its benefits for blue chip corporations. Chatter that Facebook may be added to one of the most widely used benchmarks of the US stock market, the S&P 500, is sending its shares up sharply.

Index membership is a big deal. For decades, the trend among investors—both institutional and individual—has been toward buying mutual funds, or more recently exchange-traded-funds, or ETFs, that are designed to match the performance of broad market indexes, rather than individual stocks.

To do this, these funds try to buy the all stocks that are included in the index according to how the stocks are weighted. As a result, once a stock is included in an important index, it can translate into a huge new source of demand for the shares. And the S&P 500 index is the perhaps the most important index; it usurped that position from the smaller Dow Jones Industrial Average several decades ago, as mutual funds and broader investment vehicles gained popularity. Back in 2010—the last data available—an S&P survey suggested that nearly $1.3 trillion in investment cash was in assets designed to mirror the S&P 500. For a companies included in the index, that means a share of that cash would be channeled into their stocks.

Facebook’s inclusion in the S&P isn’t a done deal. Apparently the chatter about it came out of an analyst note that suggested the company could be added to the index within the next year. S&P often makes changes to the index to account for things like bankruptcies, mergers and acquisitions, or just generally to attempt to make the index better reflect the overall stock market. At any rate, academic literature suggests that news of inclusion in the index tends to drive shares higher, at least for a bit.

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