When it comes to investing, it’s tempting to stick with what’s familiar — and in the world of global equities, the S&P 500 is about as familiar as it gets. But if your portfolio leans heavily towards this index, it might be time to rethink your diversification. Here’s why — and how — to take a fresh look at your investment mix.

What’s the role of the S&P 500 in your portfolio?

The S&P 500 is an index of 500 of the largest publicly traded companies in the United States. It’s a powerful benchmark for the US stock market — and often seen as a shorthand for “the market” overall.  And with good reason: as of 31 March this year, around 65% of developed world equity markets comprised US stocks, up around a tenth from five years ago.

For many investors, owning the S&P 500 has been a simple, effective way to tap into the world’s largest economy.

Why the S&P 500 has been a good bet

Over the past decade, the S&P 500 has delivered outstanding returns.

Driven by huge growth in technology companies, consumer brands, and healthcare giants, it’s made investors serious money, and with relatively low volatility compared to other markets.  It’s also highly liquid, well-regulated, and easy to access.

But it’s becoming more concentrated.

Today, the S&P 500 isn’t the broad, balanced index it once was.  It’s now heavily concentrated in a handful of very large tech and AI-focused stocks — companies like Microsoft, Apple, Nvidia, Amazon, and Meta which have been dubbed the Magnificent Seven.

These businesses all share some common risks, including:

Heavy capital investment in emerging technologies like artificial intelligence or AI, where business models aren’t fully proven.

Risk of disruptive competition offering cheaper alternatives.

Growing scrutiny from regulators concerned about monopolistic behaviour, both in the US and internationally.

In short: the S&P 500 has become less about 500 companies and more about a handful of very large bets.  This has generally helped power its returns in recent years.  But it has also created more concentrated risk.

Valuations play a part

A major reason investors have gravitated to the S&P 500 in recent years is the higher valuations enjoyed by many US firms.  Many US businesses grow faster, deliver higher profit margins, and are more lightly regulated than their counterparts in other developed markets.  That has driven higher investor returns.

But those higher valuations also represent a risk. Despite recent market adjustments, many of the best performing members of the S&P 500 remain on valuations that suggest high expectations. Nvidia, for example, has a forward PE ratio (the relationship between the share price and the future earnings) of 24.9.  Effectively, if Nvidia’s earnings remained at the level forecast for the next 12 months into the future, shareholders would be waiting a quarter of a century to get their money back.

Other US megacap companies also trade on high PE ratios. Apple’s on 28.8. And Tesla is on 133.3!  In contrast, taken as a whole, the developed world stock market is on 17.2.

When expectations are this high it is not hard to see how adverse events for US companies could trigger a reassessment of their valuations – particularly if the US were to enter a recession.

A shift away from the US?

That is one reason we’re seeing early signs of a rotation away from US assets towards other global regions. Europe, for example, is ramping up investment in areas like infrastructure, energy security, and defence.

These real-world investments offer a different — and arguably more durable — source of returns compared to some of the big tech stories dominating the US.

If you’re overexposed to the S&P 500, now’s a sensible time to diversify. Here are some ways to do it.

Diversify by equity approach

Within global stock markets, there’s plenty you can do to diversify your US exposure.

Actively managed funds are one route. Managers of global funds have the ability to tilt away from the most crowded areas of the market and position for long-term opportunities. That said, many still benchmark themselves against the S&P 500 — so while they offer more flexibility, they won’t stray too far from its returns.

Geographic diversification is another smart move. Regions like Europe and Asia are at different stages of the economic cycle and are investing heavily in areas like infrastructure, the energy transition, and certain technologies — but without the same concentration risks as the US.

Looking at the size of companies within a fund is another way to broaden your exposure. Equal-weighted versions of the S&P 500 reduce reliance on the biggest companies, while small cap funds can give access to lesser-known firms with real growth potential.

You can also diversify by investment style. Value-oriented strategies focus on unloved or undervalued companies — a useful counterbalance to the growth-heavy nature of large tech. Dividend-focused funds, meanwhile, can provide a more stable income stream.

Finally, listed private equity vehicles open up a different corner of the investment world. These funds often invest in cash-generative businesses that aren’t subject to the daily swings of the public markets — offering access to an alternative part of the economy that’s often overlooked.

Diversify by asset class

Another way to reduce reliance on the S&P 500 is by spreading your money across other asset classes. Bonds, for example, are often seen as lower-risk and can bring valuable stability to a portfolio. That said, 2022 reminded us that even top-rated bonds aren’t risk-free.

Property can offer both income and long-term growth, but successfully diversifying in this space is challenging. It pays to use a closed-ended fund vehicle which can ensure the ability to invest and sell at all times..

Infrastructure is alternative Moneycube favours. It’s backed by real-world demand for energy, transport, and data, for example.  In many cases, the income it delivers is long-term and inflation-linked. Recently, listed infrastructure vehicles have seen a sell-off, which could create buying opportunities for investors willing to look past short-term noise.

And then there are alternative assets — from commodities to private debt. These can offer genuine diversification, as they tend to behave differently from traditional stocks and bonds. Used wisely, they can play a valuable supporting role in a resilient portfolio.

The bottom line

The S&P 500 has been a stellar performer — but today’s version of it carries real concentration risks.

Adding true diversification across asset classes, geographies, and strategies could help you weather the next phase of the market cycle with more confidence.