Index Spotlight: Fortune 500 By IndexFunds.com Staff April 29, 2002

As passive investing continues to catch on with mainstream investors, understanding the differences between equity indexes is becoming critical for many. Benchmarks that are highly correlated and similar on the surface can oftentimes behave very differently in terms of returns and volatility. Understanding why benchmarks react differently to changes in the market requires a look into the rules that govern them.

Some indexers have noticed that the Fortune 500 index has posted higher returns than the S&P 500 index over the last three years, and with less volatility. This is of course a short-term phenomenon and doesn't mean one index is necessarily better than the other. Indexes are simply designed to track market segments, but how they go about that task can affect their behavior.

Index	Total return (4/30/99-3/28/02)	Standard deviation of monthly returns (4/30/99-3/28/02)
S&P 500	-14.06%	4.84%
Fortune 500	-10.65%	4.55%

Source: index closing prices from Reuters, Fortune (4/30/99-3/28/02)

The interesting thing about what's happening above is that the Fortune 500 index has been able to outperform the S&P 500 with lower volatility and also fewer holdings. The Fortune 500 currently holds 456 companies, compared to S&P's 500. Fortune does begin with a list of 500 companies, but this year 25 were excluded because they're private, and the rest didn't meet liquidity requirements.

According to Matthew Wooldridge, general manager at Fortune Indexes, the biggest reason for the outperformance is that the Fortune 500 has held less technology stocks. As of 3/31/2002, the streetTRACKS Fortune 500 (FFF) held 15.9% of assets in tech, according to Morningstar. Meanwhile, the SPDR 500 (SPY) tied to the S&P 500 had 17.3% parked in technology companies.

"We pay close attention to revenues, these are companies whose cash registers are ringing," said Wooldridge. "The Fortune 500 is a barometer of U.S. companies that have reached a state of revenues where they're making a substantial impact on the domestic economy."

The Fortune 500 is a cap-weighted index of the largest U.S. companies ranked by total operating revenues from the latest fiscal year.

Wooldridge points out that the Fortune 500 lagged in the last six months of 1999 when dot-coms were performing well. Since then, of course, it's been a different story.

Because Fortune places such a high premium on revenues, many of the growth companies that have since cratered didn't make it into the Fortune 500. This is apparently the biggest reason why the Fortune 500 has outperformed. Again, this doesn't mean this index is superior. It all depends on the investor's needs and goals.

The Fortune 500 methodology prevented some of the more speculative tech companies from getting in, which looks great with the benefit of hindsight. However, the decreased growth exposure won't seem nearly as exciting in speculative markets. In investing you can seldom if ever have it both ways, and the same applies to indexes.