During the tech bubble of 2000, Nortel Networks, a Canadian technology company, made up over 35% of the TSX Composite Index. When looking at the S&P 500, one of the most widely followed stock indexes in the world, we are approaching concentration levels we haven’t seen since the 1970's (Figure 1). Five stocks currently make up 21% of the S&P 500 - Microsoft (5.9%), Apple (5.3%), Amazon (4.2%), Alphabet (Google) (3.5%), Facebook (2.1%).
Figure 1: The Five Largest Stocks in the S&P 500
Source: S&P, Dow Jones, Bloomberg.
We’re not stating that the current top five are Nortel-like companies. We’re cautioning investors to be aware of the heavy concentration in the index as investors crowd into these growth monopolies. The S&P 500 just had its best month since 1987 and is now only down ~12% year-to-date. If you exclude the top five, the index would be down 26%. This means that a large number of stocks that make up the S&P 500 haven’t fully participated in the market recovery since March 23rd.
A tremendous amount of capital is chasing what are the “safe & comfortable” technology winners from the current pandemic. In most cases, these are companies that are seeing immediate revenue benefits as a result of changing consumer and business trends (think online retailing, cloud computing, home computer usage). Investors often shorten their time horizon in times of crisis and gravitate to owning companies that will thrive in the short-term. Little consideration is given to how much of the rosy outlook is already reflected in the share price.
There is a number of companies that haven’t recovered in price. With a longer-term view of the next few years, not the next six months, we are sifting through the rubble to find the best investment opportunities for our clients. There are good businesses that will be impacted from a revenue standpoint and their short-term earnings outlook is uncertain. As fundamental investors, we assess:
- How much of the bad news is already priced into current valuations
- Do the companies have strong balance sheets to weather the recession
- Is the management team capable of navigating the business through this period
- Are there competitive advantages that will allow the company to survive and prosper as the economy heals
Below are company examples that we feel are ‘hidden value within the index’:
Manulife Financial Corporation (Canada)
Manulife is a leading international financial services company with $1.2 trillion in assets under management, strong sources of recurring revenue and a balance sheet to manage through these times.
TJX Companies (US)
With a 43-year history, TJX is the leading off-price apparel and home fashion retailer with brands such as T.J. Maxx, Marshalls, Winners, and HomeSense. The company ranked 85th in the 2019 Fortune 500 listings, has $42 billion in annual sales, and more than 4,500 stores in nine countries.
Bunzl is the largest international distributor of non-food consumables, such as Starbucks coffee cups, Sephora bags, and packaging for other retailers and grocery outlets. It operates in 31 countries and in six sectors including: food service, grocery, safety, cleaning & hygiene, retail, and healthcare. Watch more insights on Bunzl in our Q1 Outlook Commentary episode by clicking here.
We are long-time shareholders of technology companies like Alibaba, Microsoft, Cisco, and Google (Alphabet) to name a few. While we are believers and owners of technology companies, we don’t believe we should own them with little regard to valuation or just because they make up 21% of a particular index. Plenty of buying opportunities remain in the market, investors simply need to look deep inside to find them.
Should you have any questions, please reach out to our client team or fill out the form below.