ETF essentials · 2 minute read
Market-cap weighted versus equal-weight ETFs
The short answer
A market-cap-weighted ETF gives larger companies larger weights. An equal-weight ETF gives each company a similar starting weight. This changes the fund’s concentration, trading activity and performance.
Why it matters
Most well-known stock indices use market-cap weighting. As a company becomes more valuable, its weight in the index usually increases.
This approach is simple and requires relatively little trading, but a small number of very large companies can dominate the index.
An equal-weight index reduces that dependence by resetting companies to similar weights. It gives smaller index members more influence, but resetting those weights can require more trading and create higher transaction costs. How often either index rebalances depends on its rules.
Neither method is automatically better. They are different exposures.
A simple example
In a market-cap-weighted index of 100 companies, the largest company might represent 8% while a smaller company represents 0.2%.
In an equal-weight version, each company may begin near 1%. The equal-weight fund therefore has less exposure to the largest company and more exposure to smaller members.
What to check
- How are holdings weighted?
- How concentrated are the largest positions?
- How often is the index rebalanced?
- Does equal weighting create a smaller-company bias?
- What are the TER and tracking results?
Key term explained
Market capitalisation is the total market value of a company’s shares. A market-cap-weighted index gives greater weight to companies with larger market values.
Weighting rules can matter as much as the list of companies included in an ETF.