5 powerful tech companies now make up 18% of the stock market — here's why this could be a bad thing
We are here to say that yes, there is life outside of investing in Apple, Microsoft, Amazon, Google and Facebook. Unfortunately, most investors don’t agree — and it could end badly for them at some point.
Those five powerful tech companies now comprise a hearty 18% of the S&P 500’s market cap, points out Goldman Sachs strategist David Kostin. That has put the S&P 500 in an unwelcome category: the dot com bubble. In 2000, Kostin notes, Microsoft, Cisco, General Electric, Intel and ExxonMobil also made up 18% of the S&P 500’s market cap. Obviously that didn’t end too well back in 2000 for the simplest of reasons.
Investors were too concentrated in tech and cyclicals such as Microsoft and GE during a time when the market turned rapidly risk off and economic growth slowed sharply. The lack of diversification bit investors in the rear, plain and simple.
Kostin is a little more hopeful investors won’t be burned this time around, however.
For one, valuations on the aforementioned big cap tech companies are more appropriate relative to the top five market cap names in 2000. In other words, tech valuations could be justified given their recent and projected growth rates in sales and profits.
Apple, Microsoft, Amazon, Google and Facebook trade at a forward price-to-earnings multiple of 30 times versus a healthy 14% expected sales growth rate. Back in 2000, Microsoft, Cisco, General Electric, Intel and ExxonMobil traded on a rich 47 times price-to-earnings multiple... realized sales turned out diving 7%.
“In order to avoid repeating the share price collapse experienced by their predecessors, today’s market cap leaders will need to at least meet – and preferably exceed – current consensus growth expectations. This time, expectations seem more achievable based on recent results and management guidance,” Kostin says.
In the meantime, today’s big cap leaders remain aggressive in reinvesting in their business to drive future profits. That suggests, according to Kostin, valuations could prove sustainable.
The collective three-year growth investment ratio (measured by Goldman as growth in capital expenditures and R&D spending as a share of cash flow from operations) for today’s S&P 500 top five equals 48% vs. 21% for the broader index, Kostin’s data shows. In contrast, the five largest stocks in March 2000 invested less of their cash flow back into their businesses than the rest of the index (26% vs. 34%).
Despite Kostin’s compelling data, being too bullish on five big cap tech stocks right now seems folly.
First, not all of the companies are performing at their very best — Microsoft is fresh off another mind-blowing quarter, Facebook not so much. Investors don’t have to own both names, they could be more scrutinizing. Further, privacy concerns and antitrust investigations will likely be major headwinds over the next decade for Amazon, Google and Facebook. At some point those issues could come to a head and trigger a re-rating in all three names.
Remember the lessons of 2000, folks.
Brian Sozzi is an editor-at-large and co-anchor of The First Trade at Yahoo Finance. Watch The First Trade each day here at 9:00 a.m. ET or on Verizon FIOS channel 604. Follow Sozzi on Twitter @BrianSozzi and on LinkedIn.
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