The S&P 500 has several criteria that disallow some of the biggest companies from inclusion in the index.
This tech giant is a glaring omission that every investor should consider adding to their portfolio.
The stock trades at a great value, especially provided the strong long-term growth outlook for the business.
One of the most popular ways to invest in the stock market today is to buy a simple S&P 500 exchange-traded fund (ETF). The Vanguard S&P 500 ETF(NYSEMKT: VOO), for example, added $117.4 billion in net new assets last year, shattering the previous single-year record for inflows into a single ETF of $51 billion.
The attraction is straightforward. The S&P 500 represents a diverse range of the biggest companies in the market. And since the index is the most often used benchmark for the stock market's performance, index investors don't need to worry about underperforming "the market."
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Over the last few years, the S&P 500's returns have been driven by a handful of spectacular stocks benefiting from growing spending and excitement around artificial intelligence (AI). If you own the Vanguard ETF or any other S&P 500 index fund, you own a good chunk of names like Nvidia, Microsoft, Alphabet, and others leading AI forward.
While many are concerned about how tech-heavy the S&P 500 has become, the truth is S&P 500 index fund investors are missing out on one of the most important AI stocks of all. But investors have a great opportunity to add this semiconductor giant to their portfolio with a strategic stock purchase right now.
Image source: Getty Images.
Why the S&P 500 is missing the most important semiconductor stock in the world
There are several criteria for potential inclusion in the S&P 500, but two of the most important are:
The company must have positive earnings in the most recent quarter and the trailing 12 months.
The company must be based in the United States.
For the most part, companies meeting those criteria are eligible for inclusion in the index as long as they're in the top 500 or so companies by market cap listed on U.S. exchanges.
That leaves a lot of great foreign companies out of the index, though. That includes Taiwan Semiconductor Manufacturing(NYSE: TSM), or TSMC. The Taiwan-based company is the largest chip manufacturer, or foundry, in the world. And it provides some of the most essential foundations for the advancement of AI.
Here's why every investor focused on technology stocks needs it in their portfolio.
An absolutely dominant force in artificial intelligence
TSMC has built a substantial technology lead over its closest competitors. It's one of only three manufacturers capable of producing chips meeting 3 nm standards, and its processes typically deliver better power and performance than comparable chips from other manufacturers.
When it comes to building AI accelerator chips for training and inference, delivering powerful chips that use as little energy as possible is essential. Real estate and power consumption are meaningful constraints that are best optimized by using chips produced by TSMC. That's why the Taiwanese company has seen demand for its most advanced chips soar over the last two years.
Sales climbed 35% last quarter, and management maintained its outlook for mid-20% revenue growth. Advanced 5 nm and 3 nm nodes accounted for 58% of total revenue last quarter, as high-performance computing (AI chips) offsets some weakness in smartphone chip manufacturing.
TSMC has built a substantial moat that makes it hard for competing foundries to eat into its growing market share. It has the most advanced manufacturing capabilities in the world, which attracts chip designers like Nvidia and Apple looking to get TSMC's technology into their products. That gives it substantial capital to invest in expanding its production capabilities and more money to invest in research and development. As a result, it's able to push its technology forward at a faster rate than competitors, and it has the scale to implement that advanced technology for its biggest customers.
That lead will expand over the next few years, as TSMC starts volume production of its 2 nm technology in the second half of this year. It's also investing a whopping $38 billion to $42 billion in capital expenditures this year to meet the growing demand for AI chips it sees coming down the road. That's a 34% increase at the midpoint of management's guidance from last year's spending. TSMC is also planning to spend $100 billion over the next few years building manufacturing capacity in the United States.
One of the best opportunities for investors in AI
While TSMC shares soared 90% in 2024, the shares have come down more than 20% from their all-time high reached earlier this year. That makes right now a great opportunity to buy shares of the stock.
Shares currently trade for less than 19 times the analysts' consensus estimate for 2025 earnings. That's well below the S&P 500's aggregate P/E ratio and among the lowest of the biggest AI stocks in the market.
What makes that valuation even more appealing is management's reaffirmed outlook for revenue growth in the mid-20% range this year while maintaining its strong operating margin. Over the long run, management expects average annual revenue growth of more than 20% over the next five years while it maintains its gross margin above 53% (versus 59% last quarter). Note, margins typically take a hit as TSMC ramps up production of a new process as it plans to do over the next few years.
There are some risks to TSMC. Particularly geopolitical risks. That's come to the forefront recently as the Trump administration is imposing tariffs on most imports. That could drive up the cost of semiconductors for TSMC's biggest customers, reducing demand for their end products, and by extension TSMC's manufacturing services. That's particularly notable for TSMC since it must invest significant capital ahead of demand in order to be able to meet customers' needs.
But given TSMC's technological lead and the importance of AI advancements to the biggest companies in the world, the company's margins should remain relatively stable. Management said during its April earnings call that it hasn't seen any changes in its customers so far.
If you invest exclusively in an S&P 500 index fund, you might consider adding Taiwan Semiconductor Manufacturing to your portfolio. Based on its market cap, it would account for roughly 1.8% of the index if it were included. It's simple enough to carve out a small portion of your portfolio for TSMC and buy a few shares at the current bargain price being offered.
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Adam Levy has positions in Apple, Microsoft, and Taiwan Semiconductor Manufacturing. The Motley Fool has positions in and recommends Apple, Microsoft, Nvidia, Taiwan Semiconductor Manufacturing, and Vanguard S&P 500 ETF. The Motley Fool recommends the following options: long January 2026 $395 calls on Microsoft and short January 2026 $405 calls on Microsoft. The Motley Fool has a disclosure policy.
