July – Magnificent isn’t what it used to be
The month of July showed what some (including Stork in previous insights letters) warned would happen, but investors were too greedy to heed. The so called magnificent 7 (Microsoft, Amazon, Meta, Apple, Alphabet, Nvidia, Tesla) suffered following earnings releases by Tesla and Alphabet, losing a grand $ 2.6T in market cap in the past 20 days. Meanwhile, the S&P 493 had a decent month. But with the weight of the 7 mega caps in the index, a negative performance was unavoidable. Is this the beginning of a sector rotation? It is hard to say, but in our summary recommendation and graph of the month, we make the case that it could be.
Data source : Bloomberg
While volatility was high at the individual stocks level, overall, the S&P 500 index remained very stable, as measured by the VIX. This shows that most of what was lost on the tech mega caps was compensated by the rest of the index. This is further demonstrated by the negative performance of the Nasdaq (-0.75%) compared to the performance of the Russel 2000 (+10.16%). US Inflation and most of its components (with the exception of food) and core inflation have had their most significant drop this year, reaching 3% and 3.3% respectively. We still have a bit to go to reach the targeted 2%, but the topic of lowering interest rates is back on the menu. The Purchasing Managers’ Index (PMI) remains solid, though manufacturing is lagging services, as it has for the past 2 years. Following the assassination attempt on former US President / current republican candidate Donald Trump, the election seemed like a done deal, until the withdrawal of President Biden and subsequent endorsement of Kamala Harris. The deck of cards is now reshuffled, and polls show that the election could go either way. Meanwhile, US executives are dumping their stocks at their fastest pace in the past 10 years and credit card past dues are climbing to their highest level since 2012. Hopefully, these are not indicators of what is to come.
Inflation in the European Union may be lower than in the US, but it has stagnated in the 2.6-2.8% range for the past 6 months. Though the ECB went ahead with 2 cuts in that period. Earnings are reportedly also good in Europe, which has helped the Eurostoxx 600 index achieve a positive performance for the month. At the same time, the Euro Area Composite PMI is back where it was in March, neither in expansion nor in contraction territory, with manufacturing also having a harder time than services. The elections in France were another surprise, with the left managing to create a barrage for the far right, but with no majority in power, not much will be happening for the next 3 years.
We have mentioned for a while now that we stay out of China for multiple reasons. You may now add two to the count. First, regardless of who wins the US elections, the trend is to disinvest from China and bring production closer to home or friends. The EU implemented a tariff on Chinese electric vehicles, which leads us to conclude that protectionism will be a major threat. Secondly, China decided to stop communicating flows of funds in Chinese stocks, further decreasing transparency.
Our summary recommendations
We have been wary for a while now of the enthusiasm around the magnificent 7 and the ensuing disparity in valuations with the rest of the stock market. For those wishing to increase their exposure to equities, we recommend going into the S&P 500 equal weight, which basically has the same stocks as the S&P 500 but with each weighing 0.2% of the index, regardless of the market capitalization of the company. This means that if the 7 mega caps and other large caps experience a correction, the impact will not be disproportionate. The flip side is that if the disparity continues to widen, that index will underperform. See chart of the month.
We stay out of emerging markets equities, as we see intensifying conflicts from multiple regions, both internal and external.
Chart of the month
The chart of the month shows the S&P 500 (light blue) and S&P 500 equal weight (dark blue) indices during the December 1997 to December 2003 period, which coincides with the internet bubble. The curves of the S&P 500 (red) and S&P 500 equal weight (orange) during the March 2003 to July 2024 was placed above the previous timeline to show what we believe to be a strong parallel between the two time periods in terms of exuberance on a specific segment of the market. Indeed, the tech and communication bubble of the early 2000 led to a strong disparity between the two indices due to these sectors strongly outperforming. When the bubble burst in late 2000, the equal weight index caught up and performed better. We believe we may be in a similar situation today, and when the magnificent 7 bubble bursts, the rest of the stock market will perform better and make up for the lag.
Data source: Bloomberg
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