Tesla equity sale comes at a good time for index-fund trackers

With Tesla Inc. about to be added to the S&P 500, people have wondered where index-tracking mutual funds will find the $80 billion of stock they’ll need to own in Elon Musk’s car-maker. Now they know: at least some of it will come from Elon Musk’s car-maker.

Taking advantage of this year’s 677% surge, Tesla said in a filing Tuesday it plans to sell as much as $5 billion in common stock. The news came two weeks before the $616 billion company’s shares are scheduled to enter the S&P 500 Index, the largest addition ever.

Given Tesla’s mammoth size, its S&P 500 debut is expected to spark billions of dollars worth of buying from index-tracking funds. Handily, the company’s third trip to the capital markets this year may help supply those shares. Tesla is expected to use the money to fund its investment program, after the company more than doubled its planned spending on plants and equipment this year.

“They’re adding some lubrication to the index-addition process,” said Steve Sosnick, chief strategist at Interactive Brokers, who surmised in a blog last week that the company would need to issue new shares before the addition. “It’s not enough to satisfy the demand, which is about $80 billion if my off-the-cuff estimate is correct, but it helps by identifying some supply.”

Tesla has surged nearly eightfold in 2020, swelling its market cap from just $75 billion at the start of the year. The company’s massive size led S&P Dow Jones Indices -- the index’s overseer -- to consider adding the company in several steps, before deciding on one.

Selling equity or equity-linked securities ahead of an index addition isn’t without precedent. Twitter Inc. sold $1 billion worth of convertible notes just before its own S&P 500 debut back in 2018.

To be sure, a lot of Tesla stock trades with or without the offering, making it a bit easier on index trackers to locate shares. With $22 billion worth of shares changing hands each day, Tesla is the highest-volume stock on U.S. exchanges over the past three months, data compiled by Bloomberg show. That’s 40% above the next closest rival -- Amazon.com Inc. -- and is 55 times as much as the average for S&P 500 members.

A combination of a unusually early notice by the index’s overseer on Tesla’s inclusion and the stock’s elevated trading volume means there will be enough liquidity to accommodate demand from passive funds, according to Todd Rosenbluth, head of ETF and mutual fund research for CFRA Research.

“This is an extremely liquid stock on a normal day and that high liquidity will provide cushion for all investors that opt to get in,” Rosenbluth said by phone. Passive funds “will be buyers regardless of price,” he added. “It’s the logical time to do a secondary offering when this dilution to shareholders won’t have much impact. Investors are eager for shares and are willing to add.”