FAANG. FANMAG. The Magnificent Seven. The Magnificent Six. Have you heard any of these terms in the last few years? That’s all I hear about anymore. The top stocks are either:
- Driving all the returns of the stock market.
- In a massive bubble unlike anything we’ve seen since the tech stock rally before th 2000 crash.
- Monopolies that need to be dismantled.
Rarely do I hear, “These are some of the best diversified, most well-run companies in history and, perhaps, deserve their lofty valuations.” So, let’s dive into the numbers and decide. Is this just like 2000, or is this something different?
This newsletter will focus on the Top 10 companies in the S&P 500, not any acronyms or slang terms that have been handed out and frequently changed over the previous years. Let’s start with the total market capitalization (the number of stock shares times the price of one share) or weight of these Top 10.
Today, the Top 10 make up 33.5% of the total S&P 500 (as shown in Chart 1 below), while before the 2000 crash, they only made up around 26-27%. This must mean these stocks are in a bubble similar to the 2000s, right?
CHART ONE: Source: Sources: FactSet, Standard & Poor’s, J.P. Morgan Asset Management.
Things get a bit more interesting when looking at Chart 2. While the current price-to-earnings ratio is elevated on a historical average basis (28.4x current vs. 20.3x average), it’s nowhere near the level seen before the tech crash (closer to 43x earnings). The other thing to note is that the rest of the S&P 500 (let’s call it the S&P 490) is well below the valuations before the 2000 crash and even below valuations seen in 2020-2021. While the opportunity after the Great Financial Crisis isn’t available to us, we are far from entering bubble territory for these stocks. And why is that? Earnings.
CHART TWO: Source – Sources: FactSet, Standard & Poor’s, J.P. Morgan Asset Management.
If you listened to the most recent Study Time with Steve webinar (youtube.com/playlist), you’ll know that earnings drive returns in the long run (as shown in Chart 3).
CHART THREE: Sources: Investment Strategy Group,
Bloomberg, S&P Global. Data through Q3 2023
Chart 4 shows that the Top 10 have justified their lofty weightings through earnings. Based on the prior 12 months, the top 10 stocks contributed 25.5% of the entire S&P 500. If earnings were spread equally among all 500 companies, it should take 125 companies to make up 25%, not 10. You can also see in Chart 4 that in 2021, these companies contributed about one-third of the entire S&P 500 earnings. Astonishing! Also, in 2000, the Top 10 only contributed about 16-18% to overall S&P 500 earnings.
Lastly, while the significant weighting of the Top 10 stocks may differ from a US market perspective, it is the norm if you look abroad.
CHART FOUR: Sources: FactSet, Standard & Poor’s, J.P. Morgan Asset Management.
Chart 5 shows the 15 largest stock markets globally and the Top 10 weightings in each of those markets. As you can see, only Japan is “more diversified” than the United States, while many countries’ Top 10s make up more than 50% of their stock markets.
Ultimately, while the size of the Top 10 is the largest in modern history, I’m not concerned that we are entering bubble territory as these companies continue to justify their lofty valuations through continued earnings growth. KWB will continue to monitor our holdings to ensure that we are diversified domestically and abroad to help our clients reach their return goals.
CHART FIVE: Sources: Charlie Bilello, Creative Planning
Quick Market Thoughts
What a great start to the year, as the S&P 500 was up 10.5% in the first quarter. Pair that with the 11.69% return in the 4th quarter of 2023, and we will be in rarefied air with back-to-back 10%+ quarters. However, it’s always a safe bet that volatility will eventually come. Generally, we expect two or three 5%+ pullbacks each year and one 10%+ correction annually. That’s the price we pay for the returns we can earn investing in stocks. So, it would not be surprising to see the market pull back from its new all-time highs in the coming months. However, we cannot predict when that will happen, so we will refrain from attempting to.
Our investment management and financial planning approach is always driven by long-term reasoning. When conditions warrant, minor tweaks are made to add or lower risk. As allocation adjustments are made, we remain within the risk tolerance you and your Wealth Manager have agreed upon. We could deviate from your overall target allocation by 5-10% if there is an opportunity in current market conditions.
If you have any questions or your financial situation has changed (beneficiaries, income needs, investment objectives, time horizon, risk tolerance, etc.), don’t hesitate to contact our office, and stay safe.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing.
All performance referenced is historical and there is no guarantee of future results. All indices are unmanaged and cannot be invested into directly.
The Standard & Poor’s 500 Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
Investing involves risk including loss of principal.
No strategy assures success or protects against loss. The economic forecasts set forth in this newsletter may not develop as predicted and there can be no guarantee that strategies promoted will be successful.
