The FAANGs were once the five biggest US tech stocks dominating the investment landscape. These included Facebook (now Meta), Amazon (now Alphabet), Apple (now Netflix), and Google (now Alphabet). This picture is no longer relevant. Instead, say hello to the Magnificent Seven (or Super Seven) – Microsoft, Tesla and Nvidia. Four of the seven are above. Netflix is the lone exception. The dominance of this group is the stock-market story for 2023.
Duncan Lamont is the head of research for Schroders, a fund manager. He says that the chart below will be remembered forever. The chart below shows that even if you choose to invest through one of the most popular “global” stock markets indices, your portfolio will be heavily skewed toward US tech and American.
The MSCI All Country World Index measures almost 3,000 companies from 23 developed and 24 emerging markets. It covers about 85% of the “global investable equity opportunities”, as it is called by the compilers. The greater the value of a company, the more weight it receives in the index.
Seven US companies are equal to five countries. Seven US companies is equal to five countries. Lamont says, “This is not diversified exposure.” Apple’s $3tn market value is larger than the UK stock exchange.
In part, the numbers are so astounding because of what’s shown in the second graph. The group of seven had risen by 74% up until last week. Within the same ACWI Index, the rest of the world’s equity managed to achieve 12%. It was difficult to keep up if your portfolio didn’t include the Magnificent 7 in 2023.
Is this level of concentration healthy for you? This is certainly unprecedented. The US stock market now accounts for 63% of what is supposedly the global ACWI. In the go-go days when the Japanese economy was booming, Japan accounted for just 44% of this index. “The US concentration is far greater than that of Japan’s in the 1980s. At the time, everyone thought it was extreme,” says Lamont.
It is hard to say that the rise in the number seven was fueled by the same type of wild speculations that created the dotcom bubble at the turn of the century. It’s hard to argue that Nvidia stock’s 240% increase this year was overdone. But it is undeniable the company’s computer chip order book is booming with the arrival of the AI revolution.
All seven are not the same. Amazon, Google, and Microsoft all have large cloud service divisions. Amazon’s retail business has very little in common Google’s Search business, and Microsoft’s software core business is also different. AI may be beneficial to all, and this is what explains the stock market’s renewed interest in technology in 2023, after a “down” year of 2022. However, the benefits will vary. Tesla is primarily a manufacturer of electric cars.
It’s more prudent to consider the consequences of such extreme concentration in the market. Seven stocks can drive a large amount of risk in both directions.
Lamont makes two points. The statistically correct statement that the US stock markets are now priced at historically low levels is not the whole story. It’s a reflection of the influence the seven have. He says that “US exceptionalism is not just stocks”. It is a very small number that is crushing everything. The average US stock does not seem expensive according to traditional investment criteria.
There is also the possibility of disappointment when stocks are overpriced. Schroders’ research showed that periods of high market concentration were often followed by periods when the larger stocks performed worse. Lamont admits that “this time could be different and we’re in uncharted terrain to some extent.”
As an active management company, Schroders could be said to have a vested interest in suggesting that the pendulum will soon swing away from index-followers. The basic point is intuitively correct. The current concentration of assets is out of line with historical norms, and the relative lack in diversification may be underappreciated. The timing is always a fool’s game, but a reversal seems to be the best way to go.