As the year draws to a close with U.S. stocks marking robust gains, fund managers find themselves at a crossroads. The critical decision to be made for 2024 looms: whether to stay with the familiar dominance of the tech giants that have propelled equity indexes to new heights or to diversify into the broader market.
The much-lauded “Magnificent Seven” – Apple, Microsoft, Alphabet, Amazon, Nvidia, Meta Platforms, and Tesla – have individually witnessed staggering growth, ranging from 50% to 240% throughout 2023, solidifying their status as the market’s most lucrative bets. Notably, their collective weightings in the S&P 500 have accounted for nearly two-thirds of the benchmark index’s impressive 24% surge this year, leading fund managers in a recent BofA Global Research survey to label owning these stocks as the market’s “most crowded” trade.
However, the landscape appears to be shifting. Recent expectations of a Federal Reserve interest rate cut in 2024, coupled with optimism about the economy sidestepping a recession, have sparked renewed interest in other sectors of the market. Simultaneously, concerns are growing among investors that the substantial rallies in the Magnificent Seven may have rendered them overvalued, potentially leaving them exposed to profit-taking.
Jonathan Cofsky, Portfolio Manager for the Global Technology and Innovation team at Janus Henderson Investors, remarked, “When you have seven companies that are huge in the index all going up, that is good for the market. But I think there are probably more opportunities in the rest of the market, depending on rates and the economy.”
Data from the Apollo Group reveals that a record 72% of S&P 500 stocks underperformed the index in 2023, signaling a potential shift in market dynamics.
Despite this, signs of a broader market rally are emerging. The equal-weight S&P 500, a proxy for the average stock, has surged 6.8% in December, outpacing the standard index’s 4.5% rise, after trailing for most of the year. Additionally, the previously sluggish small-cap Russell 2000 has witnessed a remarkable 14% surge in December, on track for its most significant monthly gain in three years.
With the Magnificent Seven’s influence swelling in the S&P 500, a downturn for these tech giants could spell trouble for the broader market unless other stocks step in to fill the void.
Looking ahead to 2024, factors such as the trajectory of inflation, the Federal Reserve’s ability to cut rates as anticipated by markets, and the continued resilience of the U.S. economy will shape the market’s direction. The run-up to the U.S. presidential elections in November could also introduce increased volatility to the market.
The appeal of the Magnificent Seven lies in their size and competitive advantages, acting as a refuge for investors concerned about economic fallout from the Federal Reserve’s aggressive monetary policy tightening to combat surging inflation. The excitement surrounding emerging artificial intelligence technology has further propelled some of these megacaps, including Nvidia and Microsoft.
However, as these stocks trade at higher valuations post their remarkable gains, concerns are mounting. According to LSEG Datastream, their average forward price-to-earnings ratio stands at 33.6 times, significantly above the S&P 500’s 19.8 times.
Matt Benkendorf, Chief Investment Officer of the Vontobel Quality Growth Boutique, noted, “They don’t get the low-hanging fruit of coming into this year weak as … a starting point.”
As fund managers grapple with the decision, some are considering a shift to small or mid-cap tech stocks in 2024 if rates continue to moderate. BMO Capital Markets strategist Brian Belski recommends a diversified approach, suggesting investors own “a little bit of everything” in the coming year.
However, there are those who believe that the allure of the tech giants will persist in 2024, drawing investors hoping for a repeat of their stellar performance in 2023. Francisco Bido, Senior Portfolio Manager at F/m Investments, sees these stocks as long-term holdings, emphasizing the feedback loop where their growing dominance attracts even more attention and investment.
In conclusion, the evolving landscape and strategic decisions of tech giants in 2024 will not only shape the trajectory of individual companies but also play a pivotal role in defining the broader narrative of innovation, competition, and market dynamics in the tech sector.
Source: Reuters
