On Jan. 19, the S&P 500 and Dow Jones Industrial Average both closed at record highs. So did Microsoft (MSFT 1.82%), which is currently the most valuable U.S.-based company, sitting at a $3.009 trillion market cap -- ever so slightly above Apple's (NASDAQ: AAPL) $3.002 trillion market cap.
The race for the most valuable company in the S&P 500 and the Nasdaq Composite is straightforward. But in the Dow, it's a little more complicated. Let's discuss these market dynamics and why, despite an uphill battle, Microsoft could eventually become the most important stock in the Dow.
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Different index structures
The S&P 500 consists of the 500 largest U.S.-based companies. This is an important distinction, because there are some massive companies you can buy through ADRs on U.S. exchanges, but they aren't in the S&P 500. A noteworthy example is Taiwan Semiconductor, which would be one of the ten largest companies in the S&P 500 if it were based in the U.S.
The Nasdaq Composite is a bit different, because ADRs are fair game. However, a company must be listed on the Nasdaq exchange, whereas the S&P 500 includes companies listed on the Nasdaq and the New York Stock Exchange.
In both indexes, the most valuable companies have the highest weighting. Both U.S.-based, Nasdaq-listed stocks, Microsoft and Apple are the highest-weighted components of both indexes. Microsoft and Apple also happen to be components of the Dow.
But unlike the S&P 500 and the Nasdaq, the Dow is a price-weighted index. The rather arbitrary quality of a stock's price dictates its weight. In 2020, Apple split its stock on a four-for-one basis. So although it holds a nearly identical market cap to Microsoft, its stock price is far lower, and it is more of an average-weighted Dow stock.
Race to the top
UnitedHealth Group (UNH 0.30%), with a stock price over $500, is currently the highest-weighted stock in the Dow. Second is Microsoft, which is knocking on the door of $400 a share. And a close third is Goldman Sachs Group (NYSE: GS), which is at $382 a share.
Just three weeks into the year, Microsoft is up 6% while Goldman is down slightly, and United Health has lost over 4%.
At this rate, Microsoft looks like it's within striking distance of catching UnitedHealth to become the most valuable stock in the Dow. But a few challenges are standing in its way.
Size disadvantages
As of the time of this writing, Microsoft would have to go up another 26.3% to tie the price of UnitedHealth. It sounds feasible, seeing as Microsoft gained 56.8% in 2023. But to get to over $500 a share, Microsoft would have to gain another $750 billion in value. That's more than the entire value of Tesla, not to mention UnitedHealth.
Large companies benefit from their size. It makes it easier to outlast an economic downturn, achieve diversification, buy out competitors, and more. But it's harder to steer a giant ship than a smaller one. The larger Microsoft gets, the more difficult it will be for the stock to gain.
There's also the likelihood that UnitedHealth gains some ground too. The stock is down over 10% from its all-time high. And because UnitedHealth is so much smaller than Microsoft from a market cap perspective, it's easier to gain that ground back. Again, the laws of physics are working against Microsoft here.
Goldman Sachs may pose an even greater threat than UnitedHealth. Its market cap is just $124.6 billion, less than 5% of Microsoft's size and less than a third of UnitedHealth's.
To be safe, I would say Microsoft has to gain another $1 trillion in market cap, which would be a 35% return and put it around $540 a share. Then again, UnitedHealth could always give up more ground and make the task easier for Microsoft. But to hold a commanding lead in the Dow, I'm going to pencil in the $4 trillion level as the next step for Microsoft.
The risk of a stock split
The biggest risk for Microsoft missing its chance to be the most valuable stock in the Dow is a stock split. Over the last five years, Apple, Alphabet, Amazon, Tesla, and Nvidia have all split their stocks. Microsoft, on the other hand, hasn't split its stock in over 20 years.
It's been a recent resurgence for Microsoft. Just five years ago, it was hovering around $100 a share. And it wasn't until late 2019 that it passed $1 trillion in market capitalization.
History says that Microsoft won't split its stock. But in light of so many gains that have come in recent years, I wouldn't be surprised if management chose that path.
It's important to remember that a stock split doesn't affect weighting in the S&P 500 or Nasdaq, since those are market cap-weighted indices. But it does in the Dow.
Companies split their stocks for various reasons, the simplest being that a stock split provides a lower entry point. Psychologically, it also makes a nominal increase seem smaller. A stock price jumping from $2.90 to $4 a share doesn't seem like a big deal. But $2,900 a share to $4,000 a share seems huge. A stock split makes it easier to wrap our heads around prices.
Why it matters
The race for the highest-weighted stock in the Dow seems more like gamesmanship than anything. But it does have its impacts.
The S&P 500 is more tech-heavy than ever, with nearly 30% of the index allocated to tech. The Invesco QQQ ETF, which includes the 100 highest-weighted components of the Nasdaq Composite, is 57.1% in tech. As per the name, the Dow was historically meant to represent the industrial sector. It hasn't been that way for a while. But it's safe to say that sector balance is important in the Dow.
The SPDR Dow Jones Industrial Average ETF, which mirrors the performance of the Dow, has sector weightings of 20.9% in financials, 19.7% in tech, and 19.4% in healthcare. A big part of that composition is due to the high weights of Goldman Sachs, UnitedHealth, and Microsoft. Meanwhile, the industrial sector is just 14.1%.
If tech continues to make up a larger share of the economy, then it stands to reason it should make up a larger share of the Dow as well. However, investors should be mindful of what these indexes contain and how they have changed so they don't wrongfully compare their portfolios to an inaccurate benchmark.
