Market Concentration and the Magnificent Seven: Where Next?

Executive summary:

  • The Magnificent Seven stocks (Microsoft, Apple, Alphabet, Amazon, Nvidia, Meta, and Tesla) have been the largest driver of equity returns in recent years and were again the dominant contributors in 2023, accounting for more than half of the market increase.
  • Market concentration is nearing its highest level in more than 50 years, with technology and related sectors now comprising more than 40% of market cap, and the 10 largest companies accounting for more than 30% of the market.
  • While the large technology companies undoubtedly possess formidable competitive advantages, prior rotations in membership among the largest companies by market cap suggest that on a relative basis, investors would do well to diversify their exposures.

The Magnificent Seven save the day

Younger investors could be forgiven for not knowing the current Magnificent Seven moniker has its origins in the classic 1960 western film “The Magnificent Seven” starring Steve McQueen and Yul Brynner, which is itself a remake of Akira Kurosawa’s “Seven Samurai”. In the movie, the farmers in a poor village hire rogue gunfighters to protect them from marauding outlaws who raid their village and take their hard-earned food and provisions.

In much the same vein, investors have flocked en masse to the Magnificent Seven stocks in recent years not only for their attractive expected long-term growth profiles, but also for their potential protection from the erosion of purchasing power due to inflation. This broad appeal has driven significant outperformance for those stocks over time; that was again the case in 2023 and continues so far in 2024.

For calendar year 2023, the Russell 1000 Index returned 26.5%, led higher by stocks within the technology (+56%) and communication services (+54%) sectors. The Magnificent Seven as a group did even better, with an average total return of 105% leading the group to contribute more than 62% of the overall gain in the index over the course of the year. That degree of outperformance has resulted in the Magnificent Seven now constituting 27% of the Russell 1000, with the top ten holdings representing 31%, a degree of market concentration unprecedented in decades.