The dominance of the largest U.S. companies in determining index and index ETF performance was truly remarkable in the first half of 2023. Seven stocks – Apple Inc., Microsoft Corp., Alphabet, Amazon.com, Nvidia Corp., Tesla Inc. and Meta Platforms Inc. – now have a market capitalization above US$11-trillion and accounted for 73 per cent of S&P 500 returns during the first six months of 2023.
Markets this narrow have historically been considered fragile and prone to significant downdrafts. BofA Securities U.S. quantitative strategist Savita Subramanian admits that the current situation echoes the late 1990s tech bubble, but believes the rally might have further to run.
The strategist is following five trends closely to assess the sustainability of the megacap rally.
The first is fund ownership. Once 100 per cent of actively managed funds hold full positions in the seven stocks, buying pressure and upside fades.
The second trend is market share. Even giant companies can see their market share growth slow and the stock price fade. BofA analysts are also concerned about regulatory risks as the 2024 presidential elections approach.
The third trend is regulatory risk.
The fourth trend is longer term interest rates. Higher interest rates and bond yields are associated with weaker returns for the type of growth stocks that dominate the list of seven biggest stocks.
The fifth factor is the pulling forward of technology spending during the pandemic – companies spent more on technology with everyone at home online. Ms. Subramanian compared the spending during COVID with the technology investment ahead of Y2K, noting ominously that the tech bubble collapsed as soon as it was over.
Ms. Subramanian sees market share as the most important factor for investors to watch. She writes, “We would avoid crowded, expensive Tech companies losing share. But mega cap Tech companies that are market share leaders should be considered core holdings.”
It is not exaggerating to say that S&P 500 returns will be broadly determined by the performance of seven stocks. As long as these behemoths can continue to expand market share, however, the rally can continue.
-- Scott Barlow, Globe and Mail market strategist
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Stocks to ponder
Laurentian Bank (LB-T) Benj Gallander and Ben Stadelmann of the Contra Guys newsletter have a history with the lender, having both purchased shares on numerous occasions. So, what do they make of news the bank has initiated a strategic review that may include selling itself? For starters, even after this week’s big rally, they have no plans on selling their stock. Here’s why.
The Rundown
In the wake of the Bank of Canada’s latest move, here are the savings rates that are on the rise
Rising interest rates are usually framed as a blow to borrowers because that’s the point of making mortgages, loans and credit lines more expensive. But rising rates also put upward pressure on returns for savers and cautious investors who favour guaranteed investment certificates. Rob Carrick surveys the latest changes.
Analysts guarded as AI-driven U.S. stock rally faces earnings test
Analysts are cautiously optimistic as second-quarter reporting season rolls out amid this year’s rally in U.S. stocks fueled by optimism over artificial intelligence and a resilient U.S. economy. Strategists expect profit at S&P 500 companies to have dropped 6.4 per cent in the second quarter from a year earlier, according to Refinitiv data. Several analysts expect companies to surpass the beaten-down estimates but some have warned this may not be enough to sustain gains in equities seen so far in 2023. Reuters has this rundown of what the big banks are saying as the earnings seasons begins.
Also see:
Investors look for reasons the market could ‘grind higher’
Investors pile into stocks, bonds as ‘mission accomplished’ on inflation, report says
Hedge funds rush to unwind bearish stock positions, banks say
Laurentian Bank’s potential sale highlights this about all bank stocks: They’re cheap
The rally in the share price of Laurentian Bank of Canada (LB-T) suggests that investors expect the up-for-sale lender to fetch an attractive premium when a bidder emerges – and, as David Berman tells us, it reinforces the notion that Canadian bank stocks are cheap.
Others (for subscribers)
The highest-yielding stocks on the TSX, plus risk data
Number Cruncher: 11 U.S. equities with strong earnings growth ahead of the upcoming earnings season
Number Cruncher: 20 Canadian bond funds for this moment in the rate cycle
Friday’s analyst upgrades and downgrades
Thursday’s analyst upgrades and downgrades
Thursday’s Insider Report: Company leaders make trades in Tourmaline Oil, Great-West Lifeco, and Couche-Tard
What the Charts Say: Bullish on Cameco Corp.
Globe Advisor
Here are 12 stocks money managers think you should own for the long term
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Ask Globe Investor
Question: Gordon Pape discussed the iShares Core S&P U.S. Total Market ETF (XUU-T) recently. I have not invested in it because I find the daily volume is too low. Do you follow a similar ETF that trades on the TSX with a higher daily volume? Thanks for your time. - Pat H., Renfrew ON
Answer: XUU has an average daily volume of 17,887. That’s low but not unreasonable. For more trading activity, look at the Vanguard U.S. Total Market Index ETF which trades on the TSX under the symbol VUN. Its mandate is much the same as that of XUU and the average daily volume is 45,225. This version of the fund is unhedged (there is also a hedged version).
However, VUN has a management expense ratio (MER) of 0.17 per cent, compared to 0.08 per cent for XUU. That contributes to slightly higher returns for the iShares entry. Over the five years to May 31, it averaged 10.71 per cent annually compared to 10.57 per cent for VUN. Not a lot, but over time it can add up.
So, take your pick. More volume or a somewhat better return.
--Gordon Pape (Send questions to gordonpape@hotmail.com and write Globe Question on the subject line.)
What’s up in the days ahead
Rob Carrick takes a look at the oddly extensive list of distressed blue chip dividend growth stocks with yields of up to 7 per cent. And John Heinzl explains why he’s buying more units in real estate investment trusts.
Buddy, can you spare a dollar? World market themes for the week ahead
Click here to see the Globe Investor earnings and economic news calendar.
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Compiled by Globe Investor Staff