Volatility and Market Cap: TSLA, NVDA, MSFT

By admin_45 in Blog

It is a long-established stock market maxim that as valuation increases volatility decreases. Large cap stocks should be less volatile than small caps. An index like the S&P 500, full of multi-billion-dollar market cap companies, should be less volatile than an emerging market country index.

To see how well that theory holds up in practice, we pulled the last 2 years of 50-day price volatility data (standard deviation of returns) for Tesla, NVIDIA, and Microsoft. The first 2 are up 10x and 5x respectively since the start of 2020 and now each represent 1.9 – 2.0 percent of the S&P 500. Microsoft has “only” doubled over the same timeframe and is 6.3 percent of the S&P. All are certainly super-cap names, but their volatility could not be more different.

Let’s start with Tesla; here is a chart of the 50-day standard deviation of returns back to 2020:

Three points here:

• That peak to the left is, of course, April 2020. The market meltdown into the March lows left no stock safe from outsized volatility.
• Every subsequent peak in volatility has been lower, which is what you would expect to see as market cap increases.
• But – TSLA’s volatility has been increasing since October 2021 (that last leg higher on the rightmost part of the graph). The last 50 days of volatility (3.9 percentage points) are just as high as early 2021, when the stock was $600/share rather than the $900 level today.

Takeaway on Tesla: a larger market cap over the last 2 years has reduced TSLA’s volatility but not in anything approaching a uniform fashion. Just when it looked “all grown up” (in terms of valuation) in October 2021, it became just as volatile as when it was significantly smaller.

Next up is NVIDIA (same timeframe/calculation as the TSLA chart above):

Three points here:

• Just as with TSLA, April 2020 was peak vol for NVDA, and for the same reasons.
• After that, NVDA settled down fairly quickly. Volatility ran 2-3 percentage points from mid-2020 to late into 2021 (that steady sine wave pattern you see in the chart).
• Recently, however, volatility has surged (the move higher on the right of the chart, just like TSLA’s pattern). The last 50-day volatility reading is 3.6 percentage points, the highest of 2021.

Takeaway on NVIDIA: NVDA’s market cap is twice what it was at the start of 2021, but it is more volatile than at any point this year.

Lastly, here is Microsoft, which is essentially the control group in this small experiment:

Three points here:

• Yes, MSFT saw the same March-April 2020 volatility as TSLA and NVDA, but not to the same degree (5 percentage points versus 6 and 8 pct respectively).
• That volatility was short-lived, falling to 2 percent over the rest of 2020 and as low as 1 percent in 2021.
• There has been no incremental volatility in MSFT over the last 50 days, very much unlike TSLA and NVDA.

Takeaway on Microsoft: this is what one expects to see as market cap increases, namely less volatility over time.

So what’s going on here, and what does it mean for investing? Two concluding thoughts:

#1: Even very large valuations do not assure incremental price stability. Keep in mind that Tesla and NVIDIA are both top-10 names in the S&P 500, larger than Berkshire Hathaway or JPMorgan. We’re not talking about frothy spec names or meme stocks. These are systematically important companies to the world’s most popular equity index. Both are trading with as much volatility as when they had much smaller valuations.

#2: The comparison to Microsoft highlights that volatility is ultimately much more about investor perceptions of business model/sustainability of returns and valuation than sheer market cap heft. MSFT may not be cheap (35x forward earnings), but it’s cheaper than NVDA (60x) and Tesla (117x). And, of course, it has a longer track record than either company of generating and sustaining high returns on capital. Once TSLA and NVDA can convince investors of their merits on this count, their volatility will decline as well. But not until then.