Large technology stocks continue to dominate the market. Is this a new normal?

The top 5 stocks in the S&P 500 – Apple, Amazon, Microsoft, Alphabet, and Facebook – have had an extraordinary run of returns. Year-to-date through August, the S&P 500 index returned 10% – with those five stocks returning 49% while the remaining stocks in the index returned -3%[1].

Many have wondered if we can expect these stocks to continue to exhibit strong performance going forward. Looking at the companies who have been at the top of the market in the past can provide helpful insights to inform our expectations for the future.

Exhibit 1 shows a breakdown of the largest U.S. stocks by decade going back to the 1930s. One key takeaway from this visual is that we have seen this before. AT&T was among the top two for six straight decades beginning in 1930. General Motors and General Electric ranked in the top 10 for more than 50 years. IBM and Exxon were also mainstays in the second half of the 20th century. In recent years, a concentration of the stock market in a few large companies such as the FAANG stocks is not unprecedented[2].

Exhibit 1

It is also not unprecedented for disruptors to be at the top of the market. While the definition of “high-tech” is constantly evolving, firms dominating the market have often been highly innovative. Dupont, the inventor of Teflon and Nylon, two household items that many individuals use daily, was at the top of the stock market for several decades after these two seminal inventions. AT&T is another company that spent several years dominating, as they brought the first mobile telephone service to the market. Technological innovation dominating the stock market is not a new normal.

Should we expect these growth stocks to continue such strong performance going forward? Truth be told, no one knows the future, but historically six of the nine decades going back to the 1930s, value stocks have outperformed, and over the full period, value stocks outperformed by 3.2% annualized[3].

Furthermore, Exhibit 2 shows from 1927 to 2019, the average outperformance of the largest ten stocks over the three years prior to joining the Top 10 was nearly 25% higher than the market. In the three years after, the edge was less than 1%[4]. Five years after joining the Top 10, these stocks were, on average, underperforming the market. Extend the time frame out to 10 years, and the gap was even wider – a stark turnaround from their earlier advantage.

This chart is illustrative of the concept that once a company is large and dominant, sure, it may stay at the top of the market, but this does not necessarily mean it is also a great investment. Rather than chasing today’s top companies’ performance, we want to ensure we are well-positioned to capture the returns of tomorrow’s top companies. While it remains impossible to predict which companies will outperform the stock market, we can focus on controlling what we can by having broadly diversified portfolios that provide exposure to a vast array of companies and sectors.

Exhibit 2

Note: Companies ranked by USD market cap at the beginning of each decade. Data from CRSP.

1 Ten Largest companies by market capitalization

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Index Definitions

Fama/French US Value Research Index provided by Fama/French from CRSP securities data. Includes the lower 30% in price to book of NYSE securities (plus NYSE Amex equivalents since July 1962 and Nasdaq equivalents since 1973).

Fama/French US Growth Research Index provided by Fama/French from CRSP securities data. Includes the higher 30% in price to book of NYSE securities (plus NYSE Amex equivalents since July 1962 and Nasdaq equivalents since 1973).

Fama/French Total US Market Research Index: The value-weighed U.S. market index is constructed every month, using all issues listed on the NYSE, AMEX, or Nasdaq with available outstanding shares and valid prices for that month and the month before. Exclusions: American Depositary Receipts

[1] Top 5 Stocks in the S&P 500 Index defined by market cap: finance.yahoo.com.

[2] None of the names mentioned or in the exhibit are recommendations to buy or sell. Past performance may not be indicative of future results.

[3] Difference between the Fama/French US Value Research Index and the Fama/French US Growth Research Index

[4] Source: Dimensional, using data from CRSP, includes all U.S. common stocks excluding REITs. Largest stocks identified at the end of each calendar year by sorting eligible U.S. stocks on market capitalization returns are measured as the start of the first calendar year after a stock joins the Top 10.