Earlier this week, tech stock Nvidia and other US tech leaders driving the AI frenzy of recent years went into sharp reverse after news of the emergence of a rival Chinese startup DeepSeek, which some analysts say may deliver superior performance at a fraction of the price.
Of course, news headlines made much of the fact that Nvidia, often considered the bellwether of the artificial intelligence boom, lost nearly $600 billion of its market value – a record for a single stock on one day – while the tech-heavy Nasdaq index lost almost $1 trillion.
But these numbers need to put into context of how much these stocks had gained prior. Nvidia, for instance, rose 170% in value, or $2 trillion, last year alone. So a reversal was inevitable. It just took the emergence of DeepSeek to provide the necessary trigger.
Even so, the pullback has fed anxieties among investors who were already concerned that their portfolios had become overly dependent on a handful of big tech names.
Should we be worried? Jim Parker, our finance writer takes a look.
Overview
The recent slump in the stock price of US technology giant Nvidia, the bellwether of the artificial intelligence boom, has triggered anxiety among some investors about their portfolios being overly dependent on a handful of big tech names.
But amid warnings about investors’ exposure to the so-called ‘Magnificent Seven’ (Nvidia, Apple, Microsoft, Amazon, Alphabet, Meta and Tesla), recent research confirms there is nothing new in a few star stocks driving market returns.
For Minchin Moore clients, that means the best course is to stay broadly diversified. This ensures that not only do you hold the big names, but you’re also positioning yourself in the next set of winners before anyone else has heard of them.
Background
It has been an extraordinary few years for the US stock market, which has outperformed other global markets under the influence of a boom in technology stocks – specifically those related to artificial intelligence.
Nvidia alone added nearly $2.1 trillion in market value in 2024, helping the benchmark US S&P-500 index to a 25% annual return. Over the past two years, the technology-heavy Nasdaq 100 index gained 92% in value.
Such is the strength of the recent performance of Nvidia and the other members of the Magnificent Seven that as of recently they accounted for 40% of the Nasdaq benchmark and about 30% of the broad US equity market. On their own, that elite group of seven accounted for 55% of the S&P 500’s return last year.
That’s why news of a potentially cheaper and faster rival Chinese AI technology has fed existing concerns about the exposure of investors in indexed portfolios to a handful of US stocks that were already at heady price-earnings multiples.
So, a question we frequently hear from clients is whether their portfolios are too concentrated in a few winners and whether they would be wiser to steer away from the Magnificent Seven and other big names.
The Evidence
As always, in answering these questions, we tend to look beyond the latest headlines to what the long-term, peer-reviewed research shows. And the evidence here is that market concentration in a few winners is not a new phenomenon.
A recent study, looking at nearly a century of US stock returns, found of nearly 30,000 publicly listed common stocks traded on the market from December 1925 to December 2023, most (51.6%) had negative cumulative returns. [1]
But while most stocks were losers, a few posted stratospheric gains. In fact, 17 of those stocks delivered cumulative returns of more than 5 million percent (or $50,000 per dollar initially invested). Even so, annualised compound returns to these stars were relatively modest, averaging 13.47% across the top 17 names and reinforcing the importance of “time in the market.”
The long-term top-heavy nature of the market is revealed in the difference between median (the middle value in the dataset) and the mean (the average). This distinction is important because the mean can skew the overall result due to performance outliers.
So, of the nearly 30,000 stocks in the study, the median cumulative compound return was -7.41%, but the mean return was +22,840%! In other words, while most individual stocks lost investors money, the returns of superstar outliers were so spectacular that they made up for the losses elsewhere. And it has always been that way.
Not only that, but this pattern is repeated in markets around the world, not just in the US. A study by the same authors looked at long-run shareholder returns for more than 64,000 global stocks over 30 years from 1990. [2]
They found that 57.4% of non-US stocks underperformed US Treasury bills over the full period. Even more startling, just the top performing 2.4% of firms accounted for all the $75.7 trillion in net global stock market wealth created in that period.
The Implications
What does all this mean for you as an investor? Essentially, it means you don’t need every stock in your portfolio to be a winner. As we have seen, most stocks will lose money, and your returns over time will come from a few extreme outliers.
If you are broadly diversified, with exposure to the overall market, you will earn those returns regardless.
But shouldn’t you then go looking for the winners and shun the losers? Nice idea, of course, but the evidence shows no-one can do that consistently for any time. They tend to get the timing wrong or take uncompensated risks.
One of the founders of indexing, Jack Bogle, once put it this way: “Instead of trying to find the needle in the haystack; just buy the whole haystack”.
But what about being overexposed to a few large growth technology names?
This is where Minchin Moore’s approach makes so much sense. We buy virtually the whole market, but we systematically tilt portfolios towards smaller, relatively low priced, and quality names. These are the factors (relative size, value and quality) that have been academically proven to drive higher expected returns in the long run.
With our approach, you still own a slice of the big names, but you hold these names at a lower weighting than you would if you were naively following an index. This way your portfolio benefits from the superstar stocks, but it isn’t overly dependent on them.
Even better, your portfolio is more likely to be positioned in the next generation of superstars, the names of whom few people would currently have heard.
The Benefit of Our Philosophy
This again is the benefit of embracing an investment philosophy grounded in evidence, not fashion or forecasts.
We don’t try to time the market or second-guess prices. We look at hard data and we make systematic decisions within areas we can control – like rebalancing your portfolio regularly to keep you on track – selling high and buying low in other words.
None of this requires a forecast or a hunch about the Magnificent Seven or anything else. It’s a rules-based approach that helps you avoid succumbing to emotional impulses during volatile and highly uncertain periods.
It’s how wealth is created in the long term.
[1] Bessembinder, Hendrik (Hank), Which U.S. Stocks Generated the Highest Long-Term Returns? (July 16, 2024). Available at SSRN: https://ssrn.com/abstract=4897069 or http://dx.doi.org/10.2139/ssrn.4897069
[2] Bessembinder, Hendrik (Hank) and Chen, Te-Feng and Choi, Goeun and Wei, Kuo-Chiang (John), Long-Term Shareholder Returns: Evidence from 64,000 Global Stocks (March 6, 2023). Available at SSRN: https://ssrn.com/abstract=3710251
