Investors spent 2023 fretting about the sustainability of a stock-market rally largely driven by a handful of megacap tech stocks. Those worries remain in place as the S&P 500 has returned to record territory in the new year.
“With the usual set of select megacap stocks pacing early 2024 performance, concentration-risk worries have been getting a lot of attention again, and particularly what it may mean for stock-market performance should these trends reverse in the coming months,” said Brian Belski, chief investment strategist at BMO Capital Markets, in a note.
It’s a topic that comes up frequently in client conversations and appears to be what has investors worried most, he said.
The good news, according to Belski, is that investors may be overestimating the risk a megacap reversal would pose to the bull market.
Instead, BMO’s analysis shows that the S&P 500
has performed just fine following peaks in relative performance of the 10 largest stocks. Belski highlighted the data below, which shows the S&P 500 has averaged a 14.3% return in the year following prior relative performance peaks since 1990.
|S&P 500 subsequent 1-year performance after peak in Y/Y relative performance of 10 largest S&P 500 stocks
|Source: BMO Capital Markets, FactSet
The only period when the index posted a loss occurred in 2001 following the collapse of the tech bubble, which Belski has argued isn’t a comparable period despite recent commentary to the contrary.
and Tesla Inc.
— dominated stock-market returns in 2023.
In 2024, the leadership is even more concentrated, with Microsoft, Meta, Amazon and Nvidia doing most of the heavy lifting, noted Adam Turnquist, chief technical strategist at LPL Financial, in a Tuesday note (see chart below).
Belski acknowledged it was “hard to deny the outsized influence that the largest stocks could have on market performance given their hefty index weight, especially if they begin to struggle and that is what we believe has investors most worried.”
Investors should keep in mind, however, that the S&P 500 almost always sees a technical correction at some point during the second year of a bull market, Belski said. BMO contends the bull market began following the S&P 500’s bear-market bottom in October 2021.
So if highflying megacap stocks do begin to struggle, causing broader market weakness, it won’t be enough by itself to negate the bull-market outlook, he said.
Since the S&P 500 has averaged a roughly 10% maximum drawdown in the second year of bull markets, investors should “remain active and disciplined when it comes to their investment process rather than being passive or reactive to shorter-term performance trends,” he wrote.
The S&P 500 and Dow Jones Industrial Average
were both on track to finish at record highs on Wednesday.