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Investing in a Top-Heavy Market: Risks and Rewards of the Magnificent 7

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Only a handful of stocks currently drive the stock market’s returns. The Magnificent 7 is dominating headlines and posting impressive returns. The question is whether or not this is healthy. 

While it can be worrisome, this behavior is not unusual.

According to Professor Hendrik Bessembinder, only 4% of stocks are responsible for all of the gain of the entire stock market over the past 100 years. The other 96%? They couldn’t meet or exceed the return of treasury bills. 

History proves there are many losers and only a few big winners over the long term. So this, to me, is not too concerning. 

However, I am concerned with how top-heavy stocks have become. The top 10 stocks within the S&P 500 currently make up ⅓ of the entire index.

The Top 10 Stocks in the S&P 500 February 2024

I went back and looked up the top 10 stocks over time to see if today’s concentration is normal. It’s not.

Some interesting notes on this chart:

  • There has been a lot of turnover over the years, which is good.
  • The average weight of the top 10 stocks as a percentage of the S&P 500 from 1980 to 2020 is 23%. We are currently at 33%. 
  • General Electric dominated this list for decades. However, nothing lasts forever, and it is currently listed as the 49th biggest company in the U.S.
  • Apple seems to be the new General Electric, as it has been a top company over the past decade or so.
  • Technology stocks currently dominate the list today. I’m not sure if this is a good thing or not, but it’s definitely worth noting. This makes sense as this is where earnings growth is coming from. 

Once a company makes the top 10 list, there seems to be a point where returns are limited. 

Most of the top 10 stocks today have impressive moats, and they are printing cash. No one knows how many of these companies will stay in the top 10 over the next few decades. History suggests that, at most, only one or two of them will. We just don’t know which one. The smart bet is to stay diversified and not take that bet at all.

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