by: Richard A. Anderson
Since the start of the U.S. stock bull market following the Great Recession in 2009, consumer discretionary and technology have been the best performing sectors of the S&P 500. In the first half of 2018, that trend continued. It is not uncommon for market sectors to experience long periods of strong performance, but what has some in the financial media buzzing is that the same handful of technology companies continue to be among the best performers. Those companies are Alphabet, Amazon, Apple, Facebook, Microsoft, and Netflix. Different acronyms have been developed to describe this group of stocks. Depending on which stocks are included, you may have seen them labelled FANG, FAANG, or FAAMG.
The chart below shows that the top 10 performers in the S&P 500 for the first half of the year contributed 122% of the index’s return over that time frame. The list of top 10 performers once again included the aforementioned six technology stocks.
While this chart may appear troubling, it is not uncommon for a small number of stocks to contribute a large share of the gains in a market capitalization weighted index like the S&P 500. In a market capitalization index, larger companies have a greater weighting and thus will have a greater contribution to the index’s return. As you can see from the chart above, even though Apple had a 10% return and Netflix had a 106% return for the first half, they both contributed the same amount to the S&P 500’s return. That is because Apple has a weighting that is 9 times that of Netflix.
What is rarer is that the top five companies in the S&P 500 are all technology stocks. Amazon is technically considered a consumer discretionary stock, but that is a matter of semantics. For comparison, in 2010 the largest components of the S&P 500 were Exxon Mobil, Apple, Microsoft, Berkshire Hathaway, and General Electric.
Although investors may be recalling similar emotions to the lead up to the tech bubble, this time is different. The big five tech companies back then were Microsoft, Cisco, Intel, Lucent Technologies, and IBM. Those companies were pure technology companies, as their revenues were generated primarily from computer hardware and software sales. Some of those companies were trading at over 100 times earnings (Cisco’s P/E ratio in March 2000 was 196.2).
Flash forward to today and the big five tech companies are Alphabet, Amazon, Apple, Microsoft, and Facebook. While these companies are technology companies, their revenues are generated from so many different areas. Apple is more than just phones, tablets, and computers. Facebook is more than just their social media website. These companies are essentially conglomerates, having acquired smaller companies throughout the years to diversify their revenue sources. In addition, these companies have significant earnings and sales to support their high prices.
What gets overlooked when viewing charts like the one shown above in isolation is the other areas of the markets that have shown strength. The big names in the S&P 500 get all the attention and may have individuals questioning why they own stocks other than the big 5 tech stocks or the NASDAQ. But U.S. small caps have actually outperformed U.S. large caps year-to-date and contributed positively to returns. Plus, concentrating in a handful of stocks or just one sector of the market provides big risk to go along with the opportunity for big rewards.