What Tesla Investors Can Learn From Yahoo’s Entry Into S&P 500 Index

Tesla (NASDAQ:TSLA) is set to become the largest company ever added to the S&P 500 index, as of Dec. 21. Tesla stock investors have rejoiced over the news that the stock will finally be joining the S&P. The stock has rallied and bulls see the addition as a validation of their investment. It will also reportedly drive more than $80 billion in passive fund buying in the stock.

Tesla (TSLA) logo on city building at night
Source: Vitaliy Karimov / Shutterstock.com

Given Tesla’s size and growth, it’s difficult to find a similar situation in the past for comparison. But after digging into the numbers, I believe Tesla today looks a lot like Yahoo! did back in December 1999.

Tesla Stock Vs. Yahoo

On Nov. 30 1999, Standard & Poors announced Yahoo would be added to the S&P 500. Let’s start our analysis a couple of years earlier.

Yahoo went public in April 1996. It finished its first day of trading with a market cap of $848 million.

On Nov. 30, 1998, exactly one year before it was added to the S&P 500, Yahoo shares closed at $24. On Dec. 1, 1999, the day after the S&P 500 announcement was made, Yahoo shares closed at $57.22. After factoring in a two-to-one stock split on Feb. 8, 1999, that price adjusts to $114.44. In other words, Yahoo shares rallied by 376% in the year leading up to the announcement.

Yahoo actually ended up joining the S&P 500 on Dec. 9, 1999. That day, the stock closed at $85. So in the nine days leading up to the addition, Yahoo rallied 48.5%. “It’s essentially a huge gift from the index to current shareholders,” said Arthur Newman, back then an analyst for Schroder & Co.

Tesla’s numbers don’t match up perfectly by any means, but they are very similar. Tesla stock is up 716% in the past year and has rallied 52.6% since S&P announced its addition in November. In other words, Tesla’s gains prior to the addition were a bit more extreme than Yahoo’s.

1999 Yahoo Bull Case

I can already hear the Tesla investors saying “Tesla is no Yahoo.” Yahoo is an archaic relic that was left behind by companies like Alphabet (NASDAQ:GOOGL) and Twitter (NYSE:TWTR). That conclusion is perfectly clear… in hindsight. But here’s a look at what Yahoo was in 1999.

In 1998, Yahoo was the single most-popular homepage on the internet. It was also by far the most popular search engine in the world. In 1999, Yahoo reported 190% year-over-year revenue growth.

Yahoo’s market cap skyrocketed from under $10 billion in mid-1998 to a peak of more than $110 billion in 2000.

After another two-for-one split on Feb. 14, 2000, Yahoo shares traded at a split-adjusted $35.64 on Dec. 10, 2001. The stock dropped 68.8% in the first two years following its addition to the S&P 500.

In 2002, Yahoo reported impressive 33% revenue growth. However, the bubble stock never returned to its glory days. Yahoo’s market cap never even touched $60 billion ever again.

In the past few weeks, I’ve been contemplating whether or not Tesla’s addition to the S&P 500 will ultimately mark the top for Tesla stock. I believe there’s a very good chance it could.

How To Play It

There’s an argument to be made that Yahoo was in a better position in 1999 than Tesla is in today. Both companies have impressive revenue growth, but Tesla’s 39.1% growth last quarter is nothing compared to Yahoo’s 190% growth in 1999. Yahoo shares rallied 376% in the year leading up to its S&P 500 news. Tesla shares may be even more overheated, up 716%.

Both companies are/were market leaders in massive long-term growth markets. For Yahoo, it was internet search. For Tesla, it is electric vehicles. However, Tesla is attempting to disrupt a long list of legacy automakers who dwarf Tesla in cash flow and resources. Yahoo was essentially entering a market that was wide open, making its path to success much easier.

Yahoo is not unique. A recent study of 31 years of data found stocks that join the S&P 500 as one of its 100 largest constituents average a 7% decline in the following year. Tesla is on track to be the sixth-largest S&P 500 component.

It remains to be seen whether or not the S&P 500 addition is the ultimate sell-the-news event for Tesla. Either way, the stock is extremely overvalued compared to both auto peers and high-growth tech peers.  I certainly wouldn’t short Tesla stock heading into the S&P 500 addition. But buying Tesla at bubble prices is one of the most dangerous investments you can make.

On the date of publication, Wayne Duggan held a long position in GOOGL.

Wayne Duggan has been a U.S. News & World Report Investing contributor since 2016 and is a staff writer at Benzinga, where he has written more than 7,000 articles. He is the author of the book “Beating Wall Street With Common Sense,” which focuses on investing psychology and practical strategies to outperform the stock market.

Article printed from InvestorPlace Media, https://investorplace.com/2020/12/what-tesla-stock-investors-can-learn-from-yahoo-joining-the-sp-500/.

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