Jul 04 • 2 min read
Is the Market Too Concentrated?
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Hi Reader, Happy 4th of July! When this email hits your inbox, I'll be drinking It's not the most patriotic way to celebrate, but I won't say no to warm weather, tacos, and surfing with the kids. Thank you for continuing to read and support my work. I appreciate you, and I hope you have a great holiday! Stay safe, and wealthy. 😊 ~Taylor Concentration RiskWhen negative news is scarce, the media often manufactures new worries for investors to consider. One such worry that I believe follows this formula is the so-called "market concentration risk." Yes, it's true that today's top ten companies make up a significant percentage of the S&P 500. But is it a major risk to our portfolios, as so many pundits encourage us to believe? First, we should ask the question: "Has the market ever been this concentrated before?" The unequivocal answer is yes. If we look at market concentration before the 1980s, high concentration levels were the norm. Taking this a step further: "How does the US compare to other developed markets today?" It's actually (much) less concentrated overall. According to CNBC, here are the current concentration levels in other major markets:
I bring these to your attention because almost nobody is sounding the alarms about about these markets being too concentrated. It's uniquely an American media-driven concern despite the incredible businesses that make up our top ten. Next, let's consider how incredible these businesses are and how integrated they are into our daily lives. They're so integrated that avoiding doing business with them is almost impossible. As an example of this, try to live a week without doing business with Amazon, Microsoft, Google, Nvidia, Apple, or Berkshire, and you'll likely go crazy. The insane number of products and services these companies produce (or own) helps explain their size and why they represent a large percentage of the U.S. stock market. If those three points haven't reduced concerns, let's consider one more piece of historical perspective. Let's go back to the 1970s when concentration levels exceeded today's "worrisome levels..." "How has the market performed in the time since?!" Quite simply, the returns have been great. Since the beginning of 1970 -- which includes two flat decades and three of the words bear markets in history -- the market's average annual return has been more than 10%. That's not to say that market concentration has never been a risk to investors, just that time was (and always has been) the critical factor in earning satisfactory returns. Like everything else in the investing world, the market ebbs and flows. The top ten companies in the '70s are no longer the top ten today, but that didn't mean the market permanently collapsed. Other companies stepped up and became the big winners, and I'd expect something similar to occur over the next fifty years as well. This is one of many reasons we believe in owning a widely diversified portfolio of great companies. We can never know where tomorrow's returns will come from, so we'd be wise to "own them all" over the decades to come. Stay wealthy, Taylor Schulte, CFP® |