A Two Trillion Dollar Company That the S&P 500 Is Not Allowed to Own

SpaceX reported its third quarter on October 20 and the numbers were the kind that usually end an argument. Revenue of $14.6 billion, up 161% on the year. Net income of $4.4 billion against a loss a year earlier. Operating income of $2.79 billion. The shares rose almost 8% the following session, and the market value sits around $2 trillion.

A company that size and that profitable would normally be among the largest holdings in every index fund in the country. It is in none of them that track the S&P 500, and it will not be for a while, and the reason has nothing to do with the business.

Sponsored by Brownstone Research

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The rules are mechanical and they are not about quality

S&P's eligibility criteria are a checklist. A company generally needs positive earnings in its most recent quarter and across the trailing four quarters under US accounting standards. It needs to have traded publicly for at least twelve months. It needs a free float of at least 10% of shares outstanding.

SpaceX listed on June 12 of this year, so the twelve month seasoning alone rules it out until next summer. The trailing four quarter profit test is harder still: the company lost $541 million in the second quarter and $5.5 billion in the year ago period, so one profitable quarter does not repair the trailing total. Absent a committee exception, the earliest realistic date is somewhere past the middle of 2027.

This matters to people who have never thought about index construction. If you own a fund tracking the S&P 500, your portfolio currently has no exposure to one of the five most valuable listed companies in America. That is not a judgement your fund manager made. It is a consequence of a rulebook written for a market in which companies went public small and grew up inside the index.

What the merger talk is actually about

Whitmore's Watchlist:
> SPCX (Space Exploration Technologies Corp. Class A): The company itself, and the cleanest read on how the market prices an index candidate before it is eligible.
> TSLA (Tesla, Inc.): Already in the index, and the vehicle through which a combination would change what index holders own.
> IVV (iShares Core S&P 500 ETF): The fund side of the question, and what a large addition does to everything already inside it.

Elon Musk said that SpaceX and Tesla have formed special committees to study a possible merger. Those committees exist to assess a transaction on its merits for each set of shareholders, and that is the right frame for reading them.

But the index angle is real and analysts have said so plainly. JPMorgan has argued that a stock for stock merger would give the index committee grounds to make exceptions to some eligibility rules, because the surviving company would inherit Tesla's long trading history and index membership. Their estimate is that inclusion would generate passive buying equal to roughly 10% of the combined company's free float.

That is a large number, and it is worth understanding where it comes from. Index funds do not choose to buy. When a name enters the index at a given weight, every fund tracking that index must hold it at that weight, and the money has to come from selling everything else proportionally. The buying is forced, it is announced in advance, and it is one of the few genuinely predictable flows in the market.

The part the earnings release buried

Underneath the headline there is a number that deserves at least as much attention. Capital spending was $19.6 billion in the quarter, against revenue of $14.6 billion. The artificial intelligence segment, now named Super Intelligence, brought in $7.56 billion and nearly tripled sequentially, while the connectivity business rose 69% to $5.25 billion but added fewer Starlink subscribers than expected.

A business spending more than it earns in a quarter is not unusual for infrastructure at this stage. It does mean the profitability that would eventually satisfy an index rulebook depends on that spending converting into revenue on schedule, and consensus has capex rising sharply from here rather than levelling off.

Whitmore's Take: Index membership is a rulebook outcome, not a verdict on a company, and the gap between the two is where passive investors end up with exposure they did not choose and miss exposure they might have wanted. Worth knowing what your index fund cannot hold, not only what it does.

Disclaimer
The content in this email does not constitute an offer or solicitation to buy or sell any financial instrument. All commentary is general in nature and is not directed at any individual investor.

Written by Daniel Whitmore
Millionaire Insiders