The S&P 500 Remains Relevant at 60

As John Rekenthaler discussed last week, Warren Buffett once again extolled the virtues of indexing in his recent

What strikes me is not that Buffett recommends indexing for most investors, but that he recommends an S&P 500 fund in particular. For years, the S&P 500, which celebrated its 60th anniversary on March 4, was synonymous with indexing. A whole ecosystem has sprung up around the benchmark. There are futures (even mini ones), options, and other instruments (that is, the VIX) that all reference this index.

But as time has gone on, a general consensus seems to have emerged that while adequate, an S&P 500 fund isn’t necessarily the best building block for a portfolio. (Of course, the answer also depends on an investor's individual circumstances.) Yes, it captures about 80% of the U.S. equity market’s capitalization, but it’s not the broadest representation of the market. Its constituents are selected by a committee, which adds a layer of subjectivity and, dare I say, active management.

Bogle himself has argued for years that

Plus, with the explosion in popularity of ETFs and low-cost investing generally, indexing has seemingly moved beyond the S&P 500. Of the 364 U.S. equity exchange-traded funds, only three of them track the S&P 500, though 27 others track a related subindex. Launches in recent years have segmented the equity market in countless ways, giving investors the flexibility to customize their portfolios in innumerable ways.

The Power of Brand How relevant is the S&P 500 today? Despite all the changes, it endures. S&P Global, the index's owner, claims there are about $2.2 trillion in assets indexed to the S&P 500. That represents about half the assets in U.S. equity index funds.

One might argue that this says more about the stickiness of assets than of current popularity. But inflows remain robust. S&P 500 funds (both open-end and ETFs) collected an estimated $100 billion in inflows during the past 12 months through February, which was nearly a third of the $303 billion group total.

Beyond the index’s investment merits, this speaks to the power of the S&P 500 as a brand. Another measure of a brand’s strength is its ability to withstand potential substitutes. Vanguard arguably tried to find an alternative in 2004 amidst a spat with the index’s parent over licensing fees.

Vanguard at the time introduced a similar large-cap index fund--

But this alternative to the S&P 500 hasn’t quite caught on, at least by Vanguard’s standards. Thirteen years after its launch, Vanguard Large Cap Index has $14.8 billion in assets as of February 2017. That would be a huge success for most companies, but not in this case, considering that the fund is dwarfed by the combined $531 billion in Vanguard's S&P 500-linked funds.

Vanguard patched things up with S&P and perhaps acknowledged the power of the S&P 500 brand when it launched

One of the Few But the S&P 500 brand looks like an exception; such stories are rare in the indexing space. As Vanguard showed with its moves to CRSP and FTSE, asset managers have realized that in many cases their brand trumps that of the benchmark underlying their funds.

In general, powerful brands are increasingly rare in the asset management industry. The greater emphasis on fees, the inability to differentiate, and the advent of automated advice have contributed to the commoditization of financial services. (Many of these changes have been to investors' benefit.) Insiders may disagree, but an industry where participants compete largely on price is the hallmark of a commodity business.

So, it's perhaps ironic that one of the strongest brands left in the industry is one tied to an index, the original catalyst behind much of today's commoditization.