In recent months, we have spoken about the concentration risks associated with the disproportionate weighting of the Magnificent Seven Big Tech stocks in the S&P 500 index. This week, a mailer from Coronation to its clients highlights how the outperformance of the Magnificent Seven since 2023 has resulted in a “bifurcation” of global equities markets.
In simple terms, US equities have swollen to represent 70% of the total value of the MSCI World Index off the back of the rampant growth in Magnificent Seven market capitalisations. The MSCI World Index, not to be confused with the MSCI All Country World Index, represents large and mid-cap stocks across 23 developed market countries.
The Magnificent Seven today represent around a third of the value of the S&P 500—even with stocks in sectors such as industrials scaling to new heights this year and three of the Magnificent Seven shedding significant value in the year-to-date. This means that they, in turn, now represent approximately 19% of the MSCI World Index and a significant chunk of the 8.8% return the Index has delivered year to date and the 24.4% it returned for 2023.
In 2023 the S&P 500 returned 26.3%. Contrast this with 19% for the Nikkei 225, 9.2% for the FTSE 100, and 16.2% for the Stoxx Europe 600, all reported in US dollars. Emerging markets delivered more mixed performances in 2023, with the MSCI Emerging Markets index returning 9.8% in 2023 and the MSCI Emerging Market ex-China index returning 20%, as measured in US dollars.
This set the scene for a bifurcation of markets in 2023, namely the US versus the rest of the globe, but there are signs that, with a broader rally of different sectors and bourses now in place, the narrative may be quite different going forward.
It is worth noting that the pan-European Stoxx 600 and the Nikkei 225 indices have reached new highs this year. For the year to date, the Stoxx 600 has risen 4.5% and the Nikkei 225 has climbed 13.7%. (An outlier is London’s commodities-heavy FTSE 100, which has returned only 1.4% for the year to date.)
But there is yet another bifurcation that has taken place – the performance between large caps versus mid and small caps is stark. The MSCI World Mid Cap Index and the MSCI World Small Cap Index performed at 15.53% and 15.76%% in 2023, these returns being well below that of the MSCI World Index that returned 24.4% as stated above.
Dynasty’s house view funds are positioned to benefit from the emerging markets bifurcation in two different ways: Our index and primary active managers comprise developed market-listed multinational companies that trade across the globe, with a substantial portion of their earnings derived from emerging economies on a look-through basis. Secondly, we have included a small specific exposure to China as it is grossly underrepresented in the MSCI World Index, and our selected holdings trade at discounted valuations on a relative basis.
At the same time, our funds are positioned to gain from the small and mid-cap bifurcation, in that we have specific exposure to the Smithson Investment Trust (PLC), whose holdings are confined to these two sectors.
Although our exposure to China, together with our weighting to Smithson, detracted from overall performances in 2023, we believe that the bifurcations as described above have created opportunities, especially in terms of stock selection outside of the US. A potentially weaker US dollar could also contribute to closing the gap on the S&P 500 in the years ahead.
“If the distortions incentivising the ‘borrow to buy-back’ and ‘growth at any price’ regimes have run their course, the market concentration seen in the latter half of the previous cycle is unlikely to repeat in the coming years. This should lead to increased dispersion in stock returns – thereby likely creating a supportive environment for active management.”
– Gareth Anderson and Kevin Murphy – senior equity research specialists at Mercer
Global News
- The US Federal Reserve kept interest rates unchanged at its latest meeting on Wednesday, while officials maintained the expectation of three rate cuts this year. Chairman Jerome Powell also suggested that a slowdown in the pace of reducing the Fed’s bond holdings would likely be considered “fairly soon”. Wall Street traders sent stocks to fresh all-time highs, with the S&P 500 topping 5,200 after the announcement.
- At the same time major central banks have either held, cut, or raised interest rates this week. The Bank of England held interest rates at 5.25%, whereas the Swiss National Bank unexpectedly cut its key interest rate by 25 basis points to 1.5%.In contrast, Japan ended its negative interest rate policy, lifting its short-term rate to “around zero to 0.1%” from minus 0.1%.
- US legislators yesterday put a $1.2 trillion government funding package on the table, setting up a high-stakes sprint to pass the legislation as a shutdown deadline looms at the end of the week. It’s not yet clear if lawmakers will be able to pass the legislation ahead of today’s deadline, raising concerns on Capitol Hill that there could be a short-term lapse in government funding over the weekend.
- Vladimir Putin has won six more years in the Kremlin with a landslide victory in an election where he faced no serious competition. Now he faces important challenges, including the Ukraine war where he needs to consider whether to escalate or withdraw, trade and energy in terms of rerouting trade to blunt the effects of Western sanctions, setting a new nuclear weapon security framework with the US, or entering a new arms race, an economy in which there is a shortage of workers, as well as the fact that his leadership team is past retirement age.
- Zimbabwe is allowing a free fall in its currency which has weakened against the dollar every day in 2024, and is instead working on a new exchange rate potentially backed by gold. Economist Peter C Earle suggests that money printing is often used for political gain, shifting blame for resulting inflation on enemies of the regime in power.
- The US will award Intel $8.5 billion in grants and as much as $11 billion in loans to help fund an expansion of its semiconductor factories. This is the largest award from a programme designed to reinvigorate the domestic chip industry. The package will support more than $100 billion in US investments from Intel.
- Chinese regulators have accused Evergrande and its founder of inflating revenues by $78 billion. This puts the insolvent property developer at the heart of the country’s biggest-ever financial fraud case. The findings were revealed after an eight-month-long investigation by the China Securities Regulatory Commission.
- The Novo Nordisk Foundation has granted France’s Eviden a contract to build what the computing company says will be one of the world’s most powerful supercomputers, able to process vast amounts of data using AI. It will be powered by Nvidia chips. Novo Nordisk produces super drugs Ozempic and Wegovy.
- Reddit shares soared 48% above their initial public offering price, closing at $50.44, a day after the company and some of its shareholders raised $748 million in an offering priced at the top of a marketed range. Reddit’s IPO is the fourth largest on a US exchange in 2024. Investors are embracing the social media company’s vision of profiting from the growth of artificial intelligence.
- Shares of legacy firms, shunned in recent years as the industry’s past, are rising as EV stocks have tumbled, and Wall Street is jumping on board. Last week, a spate of analysts named General Motors, Ford Motor, and Stellantis as the industry’s likely winners with demand for EVs faltering. The theory is that there will be more steady profit from such companies than their EV counterparts. However, the Biden administration’s move to throttle pollution from vehicles will be a boon to EV makers because the new rules are exceptionally stringent.
- UBS Group’s historic takeover of its former rival Credit Suisse has pushed its market capitalisation past $100 billion to the highest level in almost 16 years and cemented its leading role in global wealth management as of the first anniversary of the deal. Client funds managed by its wealth unit jumped by about one-fifth to $3.4 trillion on Tuesday, bringing it closer to Morgan Stanley, which has about $5 trillion in its wealth management division.
- As at Thursday’s close the S&P 500 was 2.43% up for the week.
Local News
- The ANC’s 200-candidate list shows the party has ignored the recommendations of its integrity committee, choosing instead to include many implicated in state capture or tainted with corruption scandals as eligible to be elected.
- The DA has threatened legal action after the expropriation bill sailed through the National Council of Provinces on Tuesday as it considers the legislation to be “archaic and ruinous”. All the provinces, except the DA-governed Western Cape, supported the bill, which has caused concern that there will be land grabs such as those seen in Zimbabwe.
- The water crisis affecting Johannesburg and eThekwini is set to become an electoral issue comparable to load-shedding. This could not come at a worse time for the governing ANC, which polls see as losing its majority. South Africa could see a breakdown in water supply to Johannesburg, Tshwane, and Ekurhuleni as Rand Water Services has said its systems are on the verge of collapse. This would affect 13 million people.
- Jabulani Sikhakhane, former spokesperson for the finance minister, National Treasury, and the South African Reserve Bank, argues that the increase in unpaid municipal bills is adding to South Africa’s general socio-economic malaise. A 10-year view shows that unpaid municipal bills have ballooned from R87 billion at the end of June 2013 to more than R313 billion by June 2023, the end of the financial year for municipalities.
- The US-South Africa Bilateral Relations Review Act, introduced in February, which calls on the US government to review US relations with South Africa, has cleared its initial hurdle by passing the House of Representatives Foreign Affairs Committee on Wednesday via a voice vote. It is expected to proceed to a formal roll call vote in the committee and then move to the full House. The bill highlights concerns that the ANC government, despite claiming non-alignment, has aligned with “malign actors” like Russia and China, and supporting Hamas, designated as a Foreign Terrorist Organization by the US. Additionally, the bill mandates the Administration to report to Congress on whether South Africa’s actions undermine US national security or foreign policy interests.
- Old Mutual Investment Group is allocating capital to gold and rand-hedge defensive stocks, ahead of the elections as there is uncertainty about the outcome while the governing ANC faces its toughest polls to date.
- The Financial Sector Conduct Authority is investigating allegations that Old Mutual’s independent financial advisory business Adviceworx’s adviser acquisition model breaches regulations, putting clients’ interests second. One of the whistle-blowers, in his communication with Old Mutual leaders, describes the alleged breach as the “largest financial advisory and intermediary services breach in South African history”.
- Discovery reported normalised operating profit growth of 13% to R5.6 billion in its interim results, with positive contributions from each composite, as South Africa increased 9%, the UK 13% and Vitality Global 71%. In early trade on Wednesday its shares were down 0.5% at R127.42 on the JSE. The health insurance provider is in talks with US peers to bring its flagship Vitality wellness programme to their market.
- The Post Office is set to close 235 branches after the conclusion of the section 189 process conducted by the Commission for Conciliation, Mediation and Arbitration. This decision will lead to more employees being retrenched, although this number is not yet known. In December 2023, the Post Office had 1,023 branches, of which 894 were active and 129 were inactive.
- The JSE has signed a deal with cloud IT giant Amazon Web Services to modernise its technology, including delivering real-time market data in the cloud. The two companies will also collaborate in AI and edge computing infrastructure while driving operational efficiencies. They will leverage AI (including generative AI), machine learning and blockchain technologies, they said on Monday.
- At the time of writing the rand was 1.60% weaker and the ALSI was 0.29% up for the week.
Sources: Dynasty, BusinessLIVE, CNN, Bloomberg, Moneyweb, WSJ, Reuters, Daily Maverick, BizNews.com, TechCentral, NYT, etc.