By Chuck Mikolajczak
NEW YORK (Reuters) -A meteoric rally in shares of Palantir Technologies is likely to leave its imprint on the final reconstitution by FTSE Russell of its benchmark indexes on Friday, when investors can expect a crush of trading volume heading into the closing bell.
Every year, FTSE Russell reconstitutes, or refreshes, the components in its range of indexes, such as the Russell 2000 index of small-cap stocks and Russell 1000 index of large-cap names.
Together they make up the Russell 3000 index. There are also style indexes such as the Russell 1000 growth and Russell 2000 value.
Friday will be the last time the indexes are reconstituted by FTSE Russell once per year – other than when initial public offerings were added on a quarterly basis. The reshuffle forces fund managers to adjust their portfolios to reflect the new weightings and components.
“We do pay attention to it because we own a lot of companies that are on that borderline between being in or out of the Russell 2000,” said Eric Kuby, chief investment officer at North Star Investment Management in Chicago.
“It does seem to be a positive, obviously, for the companies going into the index and a negative when they’re coming out.”
As Palantir has skyrocketed more than 460% since last year’s reconstitution, it is expected to move into the top 200 large-caps names in the Russell 1000, creating a void among the mid cap tech sector.
Steven DeSanctis, small- and mid-cap equity strategist at Jefferies Financial Group in New York, anticipates that will create a drop of more than 11.1% for the technology sector in the Russell midcap growth index.
In addition, he expects Palantir to see the most selling pressure by dollars from passive managers for the reconstitution.
With about $10.6 trillion benchmarked to Russell US indexes, according to FTSE Russell, the final moments before the reconstitution is finalized leads to heightened volume as some investors attempt to take advantage of additional liquidity to exploit any price dislocations.
“The fact that we now have non-traditional investors in the small-cap space for a couple of months does provide additional liquidity,” said DeSanctis. “So if you wanted to make changes to your portfolio, you have more of an opportunity to do so in the reconstitution’s time frame.”
At last year’s reconstitution, Nasdaq said nearly 2.9 billion shares, representing a record $95.257 billion, were executed in its “Closing Cross” in 0.878 seconds across Nasdaq-listed securities, topping the prior record of $80.898 billion in 2021. Melissa Roberts, analyst at Stephens Inc in New York, is estimating a $150 billion net trade this year.
While FTSE Russell occasionally makes changes to its methodology for inclusion into its indexes, this year saw little in the way of rule changes, although Russell issued a clarification on its domicile rule.
“Companies are starting to have dual headquarters,” said Catherine Yoshimoto, director of product management at FTSE Russell.
“It’s a more recent phenomenon… it’s been happening over the years, but it really boils down to needing a clarification because there were enough questions around it.”
Companies that are now expected to be included in the Russell indexes through a change in their headquarters are Brookfield Asset Management and Restaurant Brands.
Companies that are being added to the indexes usually see an increase in demand, but that does not always translate to a rise in prices, or what is known as the “wrong way” when the stock falls.
Roberts notes that while the additions to the Russell 1000 are generally seeing a climb in price, the small-cap inclusions to the Russell 2000 have declined.
“If everyone kind of has the same idea – there’s this liquidity event, I have these liquidity suppliers who are picking up shares to facilitate the Russell trade in the market, I want to force back my position or I want to exit a position,” Roberts said.
“If everyone starts doing that, that’s kind of what crowds the trade,” she added.
(Reporting by Chuck Mikolajczak; Editing by Alden Bentley and Marguerita Choy)
