And you, S&P 500?

What could end up being the biggest bagholder exercise of all time — the Operation Overlord of jamming retail investors with an overpriced IPO — is opening up on several early fronts.

Here’s an interesting story that Bloomberg published last week, which was unfortunately overshadowed by, well, everything else going on in the world:

S&P Dow Jones Indices LLC is considering changes to rules governing how companies join the S&P 500 Index, a move that would potentially fast-track SpaceX’s entry after its IPO, people familiar with the matter said.

The rule change could mean that billionaire Elon Musk’s space transportation and satellite company would see a wave of billions of dollars in forced buying. Funds that track the index must buy newly added stocks, and roughly $24 trillion is tied to the S&P 500, according to Bloomberg Intelligence.

The index provider is engaging with stakeholders to determine whether there’s demand for changing rules, said the people. No decision has been made and S&P would still have to launch a formal consultation that would last several weeks before any change can be made, the people said.

Alphaville has previously written about Nasdaq’s proposals to change its own index rules, which look, smell, and feel designed purely to fast-track SpaceX’s inclusion and secure what could be one of the biggest IPOs of all time.

A quick reminder for those lucky enough not to have to follow this saga: A series of opaque fund-raisings and mergers have lifted the “value” of SpaceX to $1.25 trillion, and the company is said to be seeking to sell $50 billion of shares in a 2026 IPO at a valuation of $1.75 trillion — despite estimated revenues of only around $20 billion and probable losses now that it has absorbed the xAI “not-built-right” money furnace.

This is not a great look for Nasdaq, as some people have commented even more sharply than us. But at least Nasdaq has a primary listings business that would benefit greatly from snatching a SpaceX IPO from its big rival, the New York Stock Exchange. Why on earth is S&P DJI also seemingly flirting with a rule-bending change to allow Elon Musk’s satellites-to-AI company a quick entry?

There are various entry requirements to ensure that the S&P 500 remains the gold standard of stock market benchmarks, and doesn’t allow just any hot stock to jump in. Here they are:

The “financial viability” requirement is possibly the best known one, as Tesla fell foul of it for many years before finally becoming the biggest entrant in the index’s history in 2020. It remains controversial in certain circles (cough venture capital cough) because it prevents many fast-growing, large but still unprofitable companies from entering the S&P 500.

However, the rules should be viewed in totality. The requirements for a certain free float, liquidity, and a 12-month stint as a public company are broadly designed to prevent immature, risky, and easily-distorted stocks from being dumped onto the public via investment funds that are measured against or track the S&P 500.

These rules are now more important than ever. Back in the day, indices only aimed to reflect the market. Today — with tens of trillions of dollars in passive investment strategies that slavishly follow them and active strategies that at least have to be “benchmark-aware” — people naturally seek to game benchmarks for their own purposes.

As FTAV friend Craig Coben wrote about Nasdaq’s proposed changes:

Once the expectation of index inclusion takes hold, investors will adapt their behavior at IPO. Fund managers already position ahead of anticipated index additions, buying stock in advance of predictable demand from trackers. Fast entry shortens the timetable and makes the trigger clearer. Buyers at the IPO can therefore be less sensitive to valuation, knowing that index-tracking funds will be required to purchase shares shortly afterward.

Combine predictable inclusion with deliberately constrained float and the effect compounds. A small pool of tradable shares meets buyers willing to accumulate in anticipation of rule-driven demand. The valuation at IPO is boosted not so much by fundamentals as by index mechanics.

This is one of the reasons why S&P has also maintained a committee as the final arbiter on index membership. This committee is allowed to exercise a fair bit of discretion on whether, when, or how to include or demote a company from the S&P 500. The rules are there to impose rigor and predictability, but the humans remain in control to ensure some common sense.

So what are the humans at S&P thinking in this case? Normally, any changes to such an influential index require a formal consultation, but it seems from Bloomberg’s report that some members of S&P’s index committee may have started one informally.

There was also this post on the company’s Indexology blog two weeks ago, which now reads a little like a trial balloon:

. . . Index methodologies do evolve to ensure that indices continue to represent the market segments they measure, and to ensure indices remain investable and replicable. Indeed, an important role of the index committee is to stay abreast of prevailing market dynamics and longer-term changes to market structure, and where appropriate seek feedback from market participants. Significant methodology changes tend to incorporate public consultations, providing market participants with the opportunity to share their feedback and perspectives on the results.

Interestingly, Alphaville has also learned that Dennis Lee — global head of index governance at S&P DJI and the only named member of its powerful index committee* — recently left the company. We don’t know why, or whether this is related to discussions of rule changes, but his departure was confirmed by S&P.

Update: In a statement, the company said:

S&P Dow Jones Indices does not comment on speculation regarding potential index or methodology changes. The S&P 500 is governed by an independent Index Committee pursuant to a transparent, published methodology that clearly describes the eligibility criteria. Any material changes to the index or its methodology involve a public consultation process announced through official S&P DJI channels.

Index rules should and are tweaked all the time. There’s a perfectly valid debate about faster index inclusion, even if Alphaville remains skeptical that it’s an important one. Profitability is a controversial index membership requirement.

If Nasdaq wants to devalue its indices by making them part of the exchange’s marketing pitch, that’s entirely up to the company. It’s a free world, even if the optics are questionable. Alphaville would be surprised if S&P Dow Jones Indices sought to make even small changes without a proper, public, and extensive consultation process, so nothing will change soon.

However, if the S&P 500’s guardians take their jobs seriously, they should fight tooth and nail against the benchmark becoming just another tool for Elon Musk, his bankers, and early SpaceX investors to engineer mechanical demand for the IPO — purely to support the ludicrous $1.75 trillion valuation and indirectly force retail investors to cash out the company’s insiders.

It turns out that Lee didn’t actually sit on the US Index Committee at S&P, so he wouldn’t have direct input into what goes in or out of the S&P 500 even though he oversaw index governance and management.

Further reading:
— SpaceX: the final frontier of IPOs (FTAV)