The S&P 500 is an index comprised of the 500 biggest companies in the U.S. It is generally considered to be a reference point for the overall health of the market, and provides a detailed view of how the world's largest businesses are performing.
Getting inducted into the S&P 500 is a big milestone and represents major validation for businesses. However, the eligibility requirements for inclusion into the index are no small feat.
Artificial intelligence (AI) specialist Palantir Technologies (PLTR 1.35%) has been eligible for S&P 500 inclusion for quite some time -- but for now, the company remains outside the index.
With the next index rebalancing scheduled to occur in June, should you consider scooping up shares in Palantir now? Let's break down Palantir's case for S&P 500 inclusion and assess if the stock is a good buy right now.
How does a company become included in the S&P 500?
There are many factors that go into determining a company's eligibility for the S&P 500. Items including which exchange the stock is listed on, as well as the overall size of the company by market capitalization, are general variables that go into assessing a company's eligibility.
However, one of the most important variables revolves around profitability. Specifically, the sum of the company's trailing-12-month earnings must be positive.
The chart illustrates Palantir's net income on a generally accepted accounting principles (GAAP) basis for the last several quarters. Investors can see that Palantir's earnings have been positive for the last five consecutive quarters.
Data source: Palantir Investor Relations.
Should you buy Palantir stock before the next S&P 500 rebalancing?
If Palantir finally receives inclusion to the S&P 500 later this year, I surmise the stock will experience an uptick. Why?
Well, it's highly likely that induction into the S&P 500 index will put Palantir on the radar of more institutional investors. As such, the company's coverage from investment banks and interest from hedge funds may begin to increase.
However, buying a stock for any speculative reason is not sound financial judgement.
Image source: Getty Images.
Palantir is emerging as an artificial intelligence (AI) superstar
One of the biggest themes fueling the capital markets over the last year is artificial intelligence (AI). While many investors are captivated by the progress of "Magnificent Seven" members Microsoft, Alphabet, Amazon, Nvidia, Tesla, Meta Platforms, and Apple, there are many other companies emerging as formidable disruptors in the AI realm.
Palantir made a splash in the AI arena last year following the release of its fourth software suite: the Palantir Artificial Intelligence Platform (AIP). Since it was launched last April, customers have publicly showcased how AIP is impacting their business -- providing investors with a preview of the number of use cases Palantir's products cover.
Palantir's position in the AI realm isn't going unnoticed. The stock is up nearly 170% over the last year and trades at 23.5 price-to-sales (P/S) -- certainly a premium compared to other software-as-a-service (SaaS) businesses.
Nevertheless, I still see Palantir as a compelling long-term buy. The company's consistent profitability really helps Palantir stand out among other high-growth SaaS stocks -- many of which are still burning money. Moreover, I'm optimistic that further revenue acceleration is on the horizon as the company uses AIP to partner with other leading AI and cloud developers.
While the stock isn't dirt cheap, I think the premium is warranted and I am bullish on Palantir's growth prospects as the long-term secular themes fueling AI play out.
Although being added to the S&P 500 would be a nice milestone to achieve, the bigger idea here is that Palantir represents a strong, compelling opportunity in the high-growth and fiercely competitive AI industry. And while I think Palantir has a good chance of making it into the S&P 500 this year, the themes explored throughout this piece show that there are more prudent reasons to buy Palantir stock that are tied to the actual underlying fundamentals of the business.
Overall, I see Palantir as a strong business with robust long-term growth ahead. Employing dollar-cost averaging is a prudent strategy to add to an existing position, or initiate a new one.
