You Shouldn't be Investing in the S&P 500

I've been a software engineer for most of my working career, so a lot of my close friends and acquaintances are also software engineers.

Most of us have spent time at FAANG / MAG7 companies, where a significant portion of our compensation came in company stock. As a byproduct, our net worth is often tied heavily to the same company that signs our paycheck.

The Holdings

In the beginning our investing strategy wasn't sophisticated. We were simply buying the S&P 500 through standard index funds like VOO, SPLM, VTI, etc. They work brilliantly for 99% of investors.

Index funds are designed to track a market. In this case, VOO tracks the S&P 500. Instead of a manager picking stocks, the fund automatically owns the same companies in roughly the same proportions as the index. And because the S&P 500 is weighted by company size, the largest companies naturally dominate the fund.

When you look inside VOO, you'll see that roughly 34% of the fund is just the MAG7.

We fell into one of the biggest mistakes a long-term investor can make.

The Concentration

One of the core tenets of long-term investing is the 5% Rule. The idea is simple: no single stock should make up more than 5% of your net worth, because one company should not be able to wreck the whole portfolio.

That is why index funds are powerful. In theory, they keep you from being over-exposed to one individual stock.

But when your compensation is tied to company stock, you can end up doubling down on your employer without realizing it.

The Example

Say you joined Microsoft as a new-grad software engineer in 2025. Levels.fyi lists Microsoft SDE compensation at about $164,000 a year: roughly $127,000 in base salary, $27,500 in stock per year, and $9,400 in bonus.

That stock number actually matters a lot; at the beginning of 2025, Microsoft traded around $414, and by the end of 2025 that $27,500 stock component would be worth about $32,000.

That is before refreshers. Before promotions. Before ESPP. Before any extra Microsoft stock you picked up along the way.

Now add the part that feels diversified.

Let's say you also saved aggressively and put another $50,000 into VOO. As of 2026, Microsoft is about 4.89% of VOO, which means that "diversified" index fund quietly adds another $2,400 of Microsoft exposure.

So your portfolio is not:

It's closer to:

In other words, Microsoft is still roughly 42% of the portfolio.

The index fund is not saving you from concentration. It is doubling down on the massive position you already have.

This is even more egregious when you consider retirement funds, HSA funds, etc are all investing back in the S&P 500 as well, so 42% is likely closer to 50% if not greater.

The Alternatives

The simplest solution is to sell the company stock as it vests. That eliminates the direct employer exposure. But the real test is simple: Would I use the proceeds to buy more MSFT anyway? If the answer is yes, holding may be the more honest choice.

You could also build your own version of VOO that excludes your employer. It's a variation of direct indexing where you build your own portfolio to mirror the S&P 500 with a twist. This strategy is also ideal for tax-loss harvesting, but we'll leave that for a different letter.

The Future

We are at an interesting point in market history. Late-stage private companies like SpaceX, OpenAI, and Anthropic will likely go public at valuations that rival today’s largest companies.

That matters because index funds do not stay frozen in time. If a company like SpaceX goes public and eventually qualifies for the S&P 500, it can become part of VOO without you ever choosing to buy it directly.

S&P 500 inclusion usually requires at least 12 months of public trading, positive earnings, enough public float, and committee approval. But the direction is clear: the next mega-cap IPO wave could make “passive” portfolios even more concentrated. We are already seeing institutions loosening the requirements for individuals to purchase these companies. They will likely enter the Nasdaq much earlier, since requirements for Nasdaq are friendlier.

The next concentration problem may not be Microsoft, Apple, or NVIDIA. It may be the private giants that have not entered the index yet.

The Hot Take

Concentration risk is not automatically bad. Almost every self-made billionaire achieved their wealth with high concentration bets.

And maybe that is fine. The MAG7 are larger than the GDP of many countries. If NVIDIA went to $0, that would not be a normal portfolio drawdown. It would probably mean something much uglier happened to the global economy.

The real problem is accidental concentration.

If you intentionally decide to own the MAG7, that's one thing. That has been a phenomenal bet. In fact, an equal-weight MAG7 portfolio would be up roughly 774% since 2020, compared with roughly 152% for VOO.

But most people holding VOO didn't make that decision. They thought they were buying "the market," while quietly buying more of the same companies that already dominate their paycheck, RSUs, 401(k), HSA, taxable account, etc.

So the real question is not whether concentration exists. It does. 100% in VOO is still concentration.

The real question is whether you chose it on purpose.