You probably haven't peeked under the hood of your typical stock index fund lately -- the S&P 500 or "Total" Stock Index. Why would you? They own everything and are supposed to offer instant diversification. Except this isn't true. Traditional market-wide indexes weight stocks by the size of the company, so the better the recent performance, the larger the company's weight in the portfolio. This approach can at times lead to significant concentration. Like now.
A look at the top 5 holdings today in the Vanguard Total Stock Index today reveals the following: Apple (2.7%), Microsoft (2.2%), Google* (2.2%), Amazon (1.6%), and Facebook (1.6%). That's over 10% in just 5 companies, and every one of them is in the technology industry. Basic index funds today look like a technology sector fund, and investors old enough to remember the 1990s know how this story ends.
Ultimately, S&P 500 and Total Market Index Funds are great for gaining exposure to large cap, growth-oriented stocks. But you shouldn't put all your eggs in one basket. Lower-priced value stocks and smaller cap stocks have had higher long-term returns and offer significant diversification benefits as well. If tech stocks repeat their performance after their last surge in the late 1990s, you'll be glad you diversified:
*Google parent company Alphabet A and C shares.
Past performance is not a guarantee of future results. Index and mutual fund performance