Aug 27, 2021 Equities

Dax: now bigger and relatively better

The Dax is expanding and increasing its market coverage. That should help gain attention, at the expense of the MDax. The MDax should, however, retain appeal of its own.

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The Dax faces the biggest change in its 33-year history in September, when its membership will increase from 30 to 40 companies.[1]

It was perhaps time for the benchmark German stock index to reform itself, as our Chart of the Week shows. So far, the Dax is covering a smaller-than-average portion of the overall domestic stock market compared with other major international benchmark indices – not even two-thirds of the market capitalization (not adjusted for free float) of the regulated market.[2] After the expansion, this figure is expected to rise to just over 80%, bringing it into the same sphere as the S&P 500, which, however, remains unrivaled in one regard: the number of sectors – and subsectors – it can cover with enough individual stocks, thanks to its 500 members. Nonetheless, the newcomers are adding more diversity and structural growth to the Dax (such as in medical technology and e-commerce). Their initially small weight might increase over time.

More diversity and potentially an additional 350 billion euros in market capitalization[3] could help the Dax gain further attention especially from international investors, while its second tier, the MDax, might lose roughly half of its market capitalization. Liquidity in this segment might suffer but we believe the secondary indices can offer opportunities particularly for active investors with a focus on individual stocks. The top Dax stock has "only" gained 80% in the past twelve months. In the MDax, meanwhile, four stocks have more than doubled in the same period, and in the less regulated growth segment of the Scale index[4], 16 of 47 stocks have more than doubled, and five have more than tripled.

Market coverage* of major equity indices

* All data based on full market capitalization, not free-float-adjusted.
1 S&P 500 market capitalization in % of Russell 3000 Index
2 IBEX 35 Index market capitalization in % of Madrid Stock Exchange General Index
3 FTSE 100 Index market capitalization in % of FTSE All-Share Index and FTSE AIM All-Share Index
4 CAC 40 market capitalization in % of CAC All-Share Index
5 Swiss Market Index market capitalization in % of Swiss All-Share Index
6 Dax market capitalization in % of CDax
7 Nikkei 225 market capitalization in % of Topix Index
Sources: Bloomberg Finance L.P., DWS Investment GmbH as of 8/23/21

German stocks overall have performed weaker than the "über" S&P 500.

As impressive as these figures may seem, German stocks overall have performed weaker than the "über" S&P 500. And this performance gap is, in fact, usually underestimated, as the Dax is a performance index (with dividends reinvested) while most other indices are pure price indices and dividends do not contribute to their performance. Since the beginning of 2000, when the two indices were on high peaks at the end of the dotcom bubble, the Dax has roughly doubled, but the Dax price index has only increased by around 10%. The S&P 500, on the other hand, has tripled since 2000. With dividends reinvested, it has risen four and a half times. It was the above-average weight of high-margin and high-growth technology companies that helped the S&P 500 outperform other markets. Nonetheless, this shouldn’t imply that attractive single investments cannot be found in the German market.

Fortunately for Dax investors, the capital market is not supposed to extrapolate the future from the past, and yesterday's underperformers may become tomorrow's outperformers. In the transatlantic comparison, however, this "tomorrow" has had to be stretched for quite some time. We believe that more diversification and a bigger tilt towards growth will make the Dax more attractive. Furthermore, the index has the potential to profit from the ongoing sales and profit recovery of cyclical, export-oriented companies. For now, we believe the Dax can reach 16,700 points within twelve months. As of today, that would give the Dax at least a minimal edge over the S&P 500 (our target: 4,600) in terms of performance. In case our targets prove right.

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1. New members will be announced on September 3 after market close. Index inclusion is on September 21.

2. The Dow Jones Industrial Average remains the laggard with only 22% coverage.

3. Dax/MDax calculations are based on the simplified assumption that the 10 biggest MDax members by market cap will move to the Dax. The effective criteria will be trading volume of the free float.

4. Scale is a subsegment of the broadest German market segment, the less regulated "Freiverkehr". Its aim was to offer something similar to the "Neuer Markt", a segment less regulated than the Dax family for young growth companies.

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