There’s a lot we don’t know about markets, especially about what comes next. Uncertainty is part of the deal.
What we do know is that markets evolve. We’ve watched structure change over time.
Decimalization at the turn of the century. Options trading in the 1970s. The creation of the SEC. Entirely new asset classes like crypto showing up along the way.
Markets change. But one thing has never changed: humans.
And humans are lazy.
That’s not an insult. It’s a survival trait. We’re wired to look for shortcuts, patterns, and simple explanations that help us conserve energy. That instinct has served us well as a species.
In markets, though, that same instinct gets people into trouble.
You see it every cycle. A narrative sounds reasonable, so it gets repeated. Then repeated again.
Eventually it’s accepted as fact, without anyone bothering to check whether it’s actually true.
The funny part is that checking has never been easier. We’re swimming in free, public data. Anyone willing to do a small amount of work can verify most market claims in minutes.
Yet many people still choose the shortcut.
One of the most common examples of this shows up in conversations about market breadth and the S&P 500.
Somewhere along the way, investors convinced themselves that when the equally weighted S&P 500 underperforms the market cap-weighted version, it’s somehow a warning sign.
Supposedly, it means breadth is weak and the market is unhealthy. And when the equally weighted index outperforms, that’s framed as confirmation that everything is fine.
It sounds neat. It sounds intuitive.
It’s also wrong.
That relationship has very little to do with market breadth, and almost everything to do with sector rotation.
Let’s walk through why.
The Equally Weighted Outperformance Fallacy
The S&P 500 that everyone quotes is a market cap-weighted index. The bigger the company, the bigger its influence.
As stocks grow in size, they automatically become a larger part of the index.
In practice, that means the S&P 500 owns more of what’s working and less of what’s not.
The strongest stocks carry more weight. The weakest ones matter less, or not at all.
The equally weighted S&P 500 works very differently. Every stock gets the same allocation. A mega-cap behemoth and one of the smallest names in the index are treated exactly the same.
At some point, investors decided that this difference carried a deeper meaning.
Without any real evidence, a narrative took hold that when the market cap-weighted S&P 500 outperforms the equally weighted version, it’s somehow a negative signal.
Weak breadth. Fragile markets. Trouble ahead.
And when the equally weighted index outperforms, that’s framed as a sign of strength and health.
It makes sense in theory maybe, but not in reality.
Everybody’s wrong.
Look at the data.
Here’s the ratio of the market cap-weighted S&P 500 ETF (SPY) vs the equally weighted S&P 500 ETF (RSP) going back a decade, with the S&P 500 overlaid on top.
Most of the time, they move together – higher together, lower together:
Now think about the implication of the popular narrative.
Imagine choosing to be underweight stocks, or not owning them at all, simply because the equally weighted index wasn’t keeping up with a version of the market that deliberately concentrates more capital in the strongest companies.
That’s the conclusion many people are implicitly drawing.
Go back 30 years and the story’s the same.
The market cap-weighted S&P 500 outperformed during the late 1990s bull market, while the equally weighted S&P 500 outperformed during the historic bear market of the early 2000s:
So where’s the evidence that equally weighted outperformance is inherently better?
It doesn’t exist.
Because this relationship isn’t telling you what people think it is.
And once you understand what’s actually driving the difference between these two indexes, the entire narrative falls apart.
That’s where things get interesting.
It’s Not Market Breadth. It’s Sector Rotation
Like most things in markets, this is not about good or bad.
It’s simply different.
The spread between the market cap-weighted and equally weighted S&P 500 isn’t telling you anything about market breadth.
It’s reflecting sector exposure.
Look at what these indexes actually own.
The market cap-weighted S&P 500 has heavy exposure to technology. More than 35% of the index sits in tech stocks.
The equally weighted S&P 500 has closer to 16%.
That difference alone explains almost everything.
When technology is leading, which index should outperform? The one with more than twice the tech exposure.
When technology is lagging, which index should hold up better? The one with far less tech.
There’s nothing mysterious about this. There’s no hidden signal. This is sector rotation, plain and simple.
As for whether that’s healthy or unhealthy, here’s the part most people ignore.
Go back and study every major bull market over the past 100 years. Technology is a leader and an outperformer in almost all of them.
Innovation drives growth. Growth drives markets.
So, in a bull market, which index do you want to own? The one with more exposure to the sector that almost always leads, or the one with less?
There’s a reason the market cap-weighted S&P 500 tends to win during healthy bull markets. It’s built that way.
Don’t overthink it.
Don’t twist the narrative.
Go do the work.
Look at the data.
The market is not hiding anything from you.
Stay sharp,
JC Parets, CMT
Founder, TrendLabs