Market Returns More Concentrated the Ever

A recent article by Morningstar (5 Charts On the Super Concentrated Stock Market) shows that the gain for Morningstar’s US Large-Mid Index for the first five months of 2023 was 9.6%. However 97% of the gain came from the 10 largest stocks by market cap. The five largest, Apple, Microsoft, Alphabet Amazon and newcomer Nvidia accounted for 78% of the gain. The values of the five largest firms were at or near all-time highs in 2021, drop precipitously in 2022 and rebounded sharply in 2023.

Morningstar’s analysis shows the impact of the five largest stocks in their index rose to 37% in 2020 fell to 8% in 2022 and reached the 78% figure in the first five months of 2023. With the long-term average being 3%, the world today is different when it comes to the composition of index performance. Over the last two decades technology has created many “winner take all” business models. These models may come from intellectual property, brand equity, human capital,  network effects. In many cases it is multiple factors that create a large economic moat.

Apple, Microsoft, Alphabet and Amazon have been seen by investors as the clear winners in their respective spaces for many years. The recent surge in Nvidia comes with the belief that artificial intelligence applications will be a long-term catalyst for sales of its GPU chips due to its position as the dominant position in that space.

Ultimately for investors the only relevant question is valuation. Forward P/E ratios for Apple, Microsoft, Alphabet Amazon and Nvidia are 28, 31, 18, 34 and 42, respectively, well above the 19 ratio for the overall index. Do the future earnings and cash flows justify the current multiples, or is Fear of Missing Out (FOMA) driving the value of these five stocks?