Diversifying investments: Global alternatives and the Mag 7
KEY TAKEAWAYS
  • Magnificent 7 stocks aren’t the only place to seek value for investors.
  • Europe’s less concentrated market offers a wider breadth of companies that have been top contributors in MSCI EAFE (Europe, Australasia, Far East) Index.
  • The recent condensed market cycle showcases the pitfalls of being overweight in certain companies.

 


The Magnificent 71 (the top contributing stocks in the S&P 500 Index in 2023) have been on a tear in recent months, leading some to think that may be the smartest place to invest right now. Historically, scale has been an impediment to growth. That’s not the case with several of the big companies, as they are generating returns on very low incremental COGS (cost of goods sold). For example, Meta laid off employees and accelerated revenue, and Google expanded beyond search — where e-commerce companies were buying traffic — to take over the knowledge worker ecosystem, again for little incremental cost.

Although we see attractive prospects for a number of these companies with scale advantages, we also take a zoomed-out global view to highlight other opportunities abroad. The top 7 contributors2 in MSCI EAFE (Europe, Australasia, Far East) Index — over the same period — have outpaced the U.S.-based cohort from January 1, 2022, through June 30, 2024.

MSCI EAFE Index top 7 contributors’ cumulative returns have outpaced the Magnificent 7 by over 20 percentage points

This chart shows two lines tracking the returns of the MSCI EAFE Index top 7 contributors and the Magnificent 7 returns from Jan 1, 2022, to June 30, 2024. Though the Magnificent 7 started above the MSCI EAFE Index top 7 contributors, the latter has been consistently outpacing the Magnificent 7 since then. The ending percentages for MSCI EAFE Index’s top 7 contributors and Magnificent 7 are 67.57% and 50.95%, respectively.

Sources: Capital Group, FactSet, Morningstar.
Magnificent 7 stocks were the top 7 contributors to returns for 2023 in the S&P 500 Index. MSCI EAFE Index top 7 contributors use the same methodology, selecting the top 7 contributors to returns for 2023 in the MSCI EAFE Index. Equal-weighted cumulative returns of those 7 respective companies reflect the period from 1/1/22 to 6/30/24. Returns based to 100 as of 1/1/22. Past results are not predictive of results in future periods. The indexes are unmanaged and, therefore, have no expenses. Investors cannot invest directly in an index.

Moving further out to look at the percent of market cap for the top 10 companies in the S&P 500 Index, MSCI EAFE Index and MSCI ACWI (All Country World Index) ex USA Index, it’s clear the S&P 500 Index has over twice as much concentration as the others. Although concentration can sometimes be a boon, it can also pose risks. For example, if there’s a high concentration in tech companies, that can be a contributor to overall return during times of innovation but also a detractor during times of turmoil. On the other hand, breadth offers more opportunities to invest while also offering more opportunities to hedge against potential issues in various sectors. 


Lower market cap concentration can offer more breadth

This chart has three lines representing the S&P 500 Index, MSCI EAFE Index and MSCI ACWI ex USA Index, displaying the gradual climb of percentage of market cap in top 10 companies in all three indexes. Labels on the chart note that a higher percentage of market cap can pose more risk, while a lower percentage of market cap can pose less risk. From January 2014 through June 2024, the concentration in the top 10 companies in the S&P 500 Index has increased from under 20 percent to 35.77 percent, while the MSCI EAFE Index and MSCI ACWI ex USA Index concentrations have remained about the same, ending at 16.17 percent and 13.02 percent, respectively.

Sources: Capital Group, Morningstar. As of 6/30/24. Weights counted by individual security (i.e., share class) within an issuer, not the overall issuer.

The shortfalls of being overweight in a select few companies is showcased even within the S&P 500 Index itself. Over the past 2.5 years, the U.S. economy has experienced what can be called a condensed market cycle, experiencing what normally takes 6.5 years on average into just 2.5 years. Over this time, only 3 of the top 10 companies by weight were also in the top 10 companies by return. 


This chart shows two sets of returns for the S&P 500 Index’s top 10 companies sorted by average weighted market cap, comparing 2.5-year total returns. If sorted by average weighted market cap, the top 10 included Microsoft, NVIDIA, Apple, Alphabet, Amazon, Meta, Berkshire Hathaway, Eli Lilly, Broadcom and JPMorgan Chase. If sorted by 2.5-year total returns, however, the top stocks were NVIDIA, Eli Lilly, GE Aerospace, Broadcom, Exxon Mobil, Merck, Caterpillar, Oracle, Costco and Applied Materials. In that 2.5-year period, only three companies appeared in the top 10 by market cap and 2.5-year total return: NVIDIA, Eli Lilly and Broadcom.

Source: FactSet. Data is based on the 50 most heavily weighted companies in the S&P 500 Index and filtered by the Top 10 by average weight and total returns. Data as of 6/30/24. The returns are shown from 1/1/22 through 6/30/24. “Sorted by average weighted market cap” reflects holdings as of 6/30/24. Past results are not predictive of results in future periods.

Looking at 2024 and 2025 estimated annual earnings, the U.S. and emerging markets (EM) could have much stronger years than in 2023, with EM far outpacing the U.S. Given this context, it may make sense to seek investments that encompass a broad global approach, both to diversify in pursuit of superior results and also as a hedge against potentially higher concentration risk found in domestic markets.


Line chart shows actual earnings growth for 2023 and estimated earnings growth for 2024 and 2025. U.S. earnings growth represented by the S&P 500 Index was at 0.5 percent for 2023 and estimated at 10.8 percent for 2024 and 14.3 percent for 2025. European earnings growth in the MSCI Europe Index was at 0.7 percent for 2023 and estimated at 4.3 percent for 2024 and 9.9 percent for 2025. Japanese earnings growth was at 8.5 percent for 2023 and estimated at 11.7 percent for 2024 and 9.0 percent for 2025. Emerging markets earnings growth represented by the MSCI Emerging Markets Index declined by 13.7 percent in 2023 – however, it is estimated to rise the most, by 16.7 percent in 2024 and 15.2 percent in 2025.

Sources: Capital Group, FactSet, MSCI, S&P Dow Jones Indices LLC. Estimated annual earnings growth is represented by the actual mean consensus earnings per share for December 2023 and estimated mean consensus earnings per share  for December 2024 and December 2025, across S&P 500 Index (United States), MSCI Europe Index (Europe), MSCI Japan Index (Japan) and MSCI Emerging Markets Index (emerging markets). Figures for 2024 and 2025 are estimates as of 6/30/24. Past results are not predictive of results in future periods.

The success of the Magnificent 7 may be warranted, but examples of innovators can be found across markets and industries that are adopting business growth strategies. Rather than concentrate on one dynamic region, investors can benefit from thinking globally when looking for companies with dominant market positions and potentially strong demand for their offerings. It’s also prudent to approach groups of stocks associated with market trends with caution, focusing instead on individual companies that have the potential to deliver top-line growth. Taking a more flexible approach to a wider opportunity set can support diversification and possibly reduce risks as markets change over time. Investors may consider New Perspective Fund® and Capital Group Global Growth Equity ETF (ticker: CGGO) as two potential investment options that utilize this global flexibility.


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Published on August 27, 2024

Additional perspectives

1Apple, Microsoft, Alphabet, Amazon, NVIDIA, Tesla, Meta Platforms.

2Novo Nordisk, ASML, SAP, Toyota Motor Corp., HSBC, Siemens, UBS.

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