How did the market do today? That's a common question used to measure the performance of the markets based on the movement of the 30 stocks in the Dow Jones Industrial Average (DJIA) or the 500 stocks in the S&P 500. Let's take a look at how the Coca Cola Company (NYSE:KO) has managed to outperform the classic benchmarks over the previous three years.
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Is It a Matter of Beta?
Beta is a volatility measure used to benchmark a stock against a broad index, like the S&P 500, tracked by the SPDRS S&P 500 Index ETF (ARCA:SPY). A beta of 1 suggests perfect correlation to the broad index, and a beta of 0.5 suggests a likely return that is 50% as volatile. (To learn more about beta, be sure to read Beta: Know The Risk and Bettering Your Portfolio With Alpha And Beta.)
The Coca Cola Company has a beta of 0.6, suggesting its returns should not surpass or fall below the highs and lows of the SPY ETF. For example, if the SPY ETF falls 10%, Coca Cola stock may fall only 6%. PepsiCo Inc. (NYSE:PEP), with its potent combination of beverages and snack foods, shares the same beta of 0.6 with the Coca Cola Company. For the sake of reference, technology companies, including Google (Nasdaq:GOOG) and Apple (Nasdaq:AAPL), have beta ratios of 1.3 and 1.7 respectively. The higher ratios are meant to signal greater volatility than the broad market.
The SPY has declined 14.57% in value over the previous three years while the Coca Cola Company stock has risen approximately 11.9% over the same time period ending March 20. PepsiCo has also managed to outperform the SPY over the time frame, by declining approximately 5.8%. Apple turned in the best performance of the group mentioned, rising 62%, while Google declined 15.3%.
The Composition Factor
The S&P 500 Index can be broken down into 10 sectors but it is led by information technology, healthcare and financials. The top three companies by index weight include Exxon Mobile (NYSE:XOM), Procter & Gamble (NYSE:PG) and General Electric (NYSE:GE) through the end of 2008. A severe downturn like the one we've witnessed in the financial sector can drag the index down and allow individual stocks that appear to offer less safety in the form of diversification to outperform. Investors should also note that the SPY ETF has AT&T (NYSE:T) instead of GE among its top-three holdings as of the end of February.
Diversification is critically important in any portfolio. By using the DJIA or the SPY ETF investors achieve diversification by spreading risk across different industries. The key to remember is when investing in global brands like Coca Cola, which is gaining market share in emerging markets like China, Eastern Europe, India and Latin America, geographical diversification of product sales can be an equally important factor.
To learn more about investing in the big indexes through ETFs, read Active Vs. Passive Investing In ETFs.