News that data analytics firm Palantir would join the S&P 500 index of large-capitalization American stocks sent the Denver-based company’s shares soaring. Opinions vary, however, about whether the shares will perform similarly over the long term strictly thanks to the effects of being added to the well-known index. Some market experts think being in the S&P 500 by itself gives a stock enduring legs. They explain this as the impact of a number of factors, including investors’ presumption that index inclusion equals an endorsement by the firm that assembles the index. Other observers say they’ve found no effect of index addition beyond a short-term price jump and explain the long-term superior price performance of companies added to the index as a function of their business success, not joining a well-known index.
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Palantir Background
Palantir Technologies Inc. was founded in 2003 with the stated goal of creating software to help American counterintelligence. The company’s products allow users to analyze very large amounts of complex data, often by combining multiple databases, in order to discover patterns and trends. Its first customers were U.S. federal agencies and today it’s used by a number of intelligence-related government units, including the Central Intelligence Agency and Federal Bureau of Investigation.
Later, the company began developing data analytics products for other markets, including corporate users who employed its technology to handle tasks such as extracting customer data from credit-card transaction databases. Recent new products targeting the artificial intelligence space have increased its focus on the non-governmental market as commercial customer revenues and profits ramped up sharply.
Palantir Share Prices
In 2020, Palantir went public at an initial public offering price of $10. The stock rose strongly for some months, then went into a long-term decline along with many other stocks during the pandemic. About the time company announced products that would help companies employ artificial intelligence for data analytics, it resumed an impressive performance. Following the Sept. 6, 2024, announcement that it would be part of the S&P 500 starting Sept. 23, 2024, it rose 13% in the next trading session.
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S&P provides broad guidelines about eligibility for inclusion in the index but does not say exactly why it includes or removes firms from the index. Being added or removed is typically a surprise to the companies as well as investors. The stated purpose of its indices is to provide a way to measure market performance, not to indicate to investors that a company is a good investment. Still, being added to the S&P 500 appears to have an effect on investor interest and share prices.
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Impact of Joining S&P 500
The question of what happens to Palantir long-term as a result of joining the S&P 500 doesn’t have a clear answer. For decades, observers have noted that being added to the S&P 500 has a large and immediate positive effect on a company’s share price. This phenomenon, known as the index effect, has been explained variously as a result of the apparent endorsement of a company’s soundness by S&P, as caused by index fund managers buying shares in order to add the stock to their portfolios and as a product of increased name recognition among investors.
One analysis, however, said the index effect was temporary and that newly included firms didn’t perform any better over the long term than other companies that showed similar financial and market performances in the months leading up to the inclusion. A look at the index effect by S&P Dow Jones Indices noted that its size had been declining in recent years. Firms added to the index from 1995 to 1999 outperformed non-index firms by about 8.32 %, S&P found. From 2000 to 2010, the index effect fell to 3.64% and from 2011 to 2021 the index effect actually went barely negative, showing a .0.04% decline.
It’s worth noting that when firms are removed from the index, they have experienced price declines. S&P says, however, that its analysis shows that this negative index effect is also shrinking and even reversing, going from -9.58% from 1995 to 1999 to a slight boost of 0.06% from 2011-2021.
The firms removed from the S&P 500 to make room for Palantir and two fellow index additions, Dell Technologies Inc. (DELL) and Erie Indemnity Co. (ERIE), were American Airlines Group Inc. (AAL), Etsy Inc. (ETSY) and Bio-Rad Laboratories Inc. (BIO).
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Bottom Line
The S&P 500 index effect seemed in force when Palantir shares rose sharply in price following news it would be added to the S&P 500 Index in late September. Explanations for the index effect include greater investor awareness, increased buying by index fund managers and a presumed endorsement of a newly added company’s business prospects by the index makers. It’s not clear whether this increase will maintain itself over the longer term, however, and in any event the index effect seems to have shrunk in recent years to barely noticeable level.
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