We spoke to a value manager recently who eloquently explained that being contrarian for contrarian’s sake is not helpful. However, it is very important to have independence of thought. We think this is critical given what is going on in equities today as there is an undeniable consensus that what has been driving equity markets is only going to continue.

It will be interesting to see how future investors will look back on the early 2020s. We suspect this will be viewed as collective hysteria, but only time will tell. Why? 

We are in one of the narrowest markets on record (according to one piece we read, they are nearly as concentrated as they were in 1929, which is never a good year to compare against). Alas, we don’t have data back to 1929 – but markets are the most concentrated they have been for the data sets we have looked at (2004 for Japan, Europe and Global, and 1989 for the US). 

Market Concentration: % in 10 Largest Companies

How has this happened? It comes down to the fact that the biggest stocks in the world, irrespective of geography, have (by far) produced the biggest returns in the world. 

The Global Titans

We are going to talk about the Global Titans Index quite a bit here, so it’s worth explaining that it tracks the 50 largest stocks in the world. Below you can see the current largest names within it, their weighting, their weighting in the Global Index and their returns over the past 12 months.

The World’s 10 Largest Stocks

As you can see, it’s a nicely diversified bunch…

The mania surrounding the likes of Microsoft, NVIDIA, Amazon, Alphabet, Meta (but also Eli Lilly and Novo Nordisk) is understandable given certain major technological breakthroughs (notably AI and obesity drugs), but their domination is eye-watering.

Over the past 12 months, the Global Titans have returned 36.9%, compared to 18.4% from the Global Equity Index (which is market cap-weighted, so biased towards the biggest stocks in the world) and just 1.1% for the equal-weighted index (which isn’t).

Putting that into context - this is the biggest margin of outperformance by the 50 largest stocks in the world in a single year on record, as the chart below shows.

Importantly, this hasn’t been a recent phenomenon, though it has reached a crescendo of late. The Titans have been, almost continuously, outperforming the rest of the world’s stock market for close to 14 years now.

As such, valuations are very, very rich. In terms of a simple P/E ratio, the biggest stocks in the world are the most expensive they’ve been relative to global equities in 20 years (and are touching their highs of December 1999, again, not a great time to compare to).

The domination of these Titans has had a sizable impact on active managers. Of the 1700-odd active equity funds in the IA universe, just 43 (or 2.5%) have managed to outperform that Global Titans Index over the past 12 months. This isn’t particularly helpful for investors like us, who only buy active managers.

Our 100% Equity Fund has looked very sluggish as a result, particularly in 2024 (so far). Periods like these are our kryptonite and there is very little we can do to keep pace, let alone outperform.

Of course, we could have done a LOT better if we had simply bought those 43 funds that have outperformed, but what would that portfolio look like?

Beating the Titans

# of Active Equity Funds Outperforming Global Titans over 12 months

As you can see the overwhelming majority of those 43 funds that have outperformed have a growth, US, and technology bias. Yes, there has been the odd India and Japan fund that has managed to outrun the Titans, but realistically, there have been very few routes to outperformance – and this is backed up by the look through analysis.

Holdings-Based Style Map

If you were to hold an equally-weighted portfolio of those funds, you would be taking a large stylistic bet (mega-cap growth) – note where our portfolio sits, where we are deliberately aiming to be style agnostic and have a genuine mixture of market cap exposure.

That portfolio of funds would also have 80% exposure to the US, and close to 50% exposure to technology stocks (the other largest weightings are communication services and consumer cyclicals, which conveniently includes Alphabet, Meta and Amazon).

And finally, in terms of underlying stock exposure, that portfolio has c.7% in Microsoft, c.5% in NVIDIA and Amazon, c.4% in Alphabet and c.3% in Apple and Meta (all bar Apple are overweight positions). All told, this means the active share of that portfolio relative to a global index tracker is just 54.6%.

Most Popular Stocks Among Active Funds Outperforming the Global Titans over 12 months

Putting it simply, to outperform the biggest stocks in the world, you haven’t really been able to own anything else.

Is it a bubble? 

That’s the golden question, isn’t it? And in short, we don’t know.

There are many highly experienced, knowledgeable (and very intelligent) investors who would argue it isn’t. For the likes of NVIDIA and Co, many say the breakthrough in Artificial Intelligence is a transformational shift in technological development and that while backward looking P/E ratios may make them look expensive, the huge growth in revenues (and expected future revenues) means those stocks are fully worthy of their current valuations. 

Certainly, recent results from many of these companies suggest the rating is justified as they are continually surprising the market with their growth. 

However, we are keen students of history, and it is interesting to see the parallels between today’s market and the market of the early 1970s and late 1990s, both of which were periods when the biggest stocks in the world were killing (seemingly) everything else. 

Party like its 1999!

The late-90s was characterised by the tech boom, with many of the largest stocks (Microsoft, Cisco, Intel etc.) benefitting massively. This was also a period when globalisation was picking up steam and, in an increasingly globalised world, it was seen as a much better option to hold those massive companies that were doing everything, everywhere. 

The performance of the Global Titans over recent years looks eerily similar to their return profile in the latter half of the 90s, with active managers struggling as a result. Data for the late 90s is on the patchy side, but of the 489 active equity funds (including those that have since closed) that Morningstar has data for between 1995 and 2000, only 114 of them (or 23.3%) beat the high-flying Global Titans. 

That figure is less dramatic than the past five years, when just 26 of the 1,418 or (1.8%) active equity funds in the IA universe have outperformed the Global Titan’s return of 119% - but we will come back to that later. 

As an example, we have compared the Global Titans against a global equity tracker and an example of the complete opposite of what you wanted to own in the late 90s, a UK small-cap value fund (Aberforth UK Small Companies). Fittingly, this is also the complete opposite of what you’ve wanted to own over recent years.

This period of mega-cap domination ended by March 2000, when the Tech Bubble burst and economies went into a period of recession. Those massive stocks fell steeply in the bear market and did very little in the subsequent bull market, with the likes of Microsoft (which was the largest company in the world at the time of the market fall) losing over 60% in share price terms over six years. Importantly, when those big stocks rolled over, it was a golden era for active managers as there was a far greater number of outperforming stocks to choose from.

You can see the performance of the Aberforth Fund as an example – despite being perceived as higher risk (small-cap and value), it made money in the bear market and generated very strong returns in the bull market.

It wasn’t just Aberforth, though. Of the 905 active equity funds in the IA universe (including those that have now closed, so no survivorship bias here), 757 of them (or 84%) outperformed the Global Titans between 2000 and 2007.

Many would argue the hype surrounding AI has not reached the hysteria surrounding the internet in the late 90s, and that the world’s largest businesses today are higher quality (and more cash generative) than those during the tech boom. This is where the similarity between today and the early 1970s comes in. 

The Nifty Fifty

The Nifty Fifty was the name given to the biggest stocks in the world of late 1970s, which included the likes of IBM, Polaroid, General Electric, American Express and Coca-Cola. It’s an unhelpful name as there is no definitive list of the stocks, and no one can agree if there were actually 50 of them or not.

Nevertheless, it was the term given for what we would now call the Global Titans and, like today, they were running the show. 

They were referred to as “one decision” stocks, meaning you wanted to buy them, hold them and let them continually grow your wealth. They often traded at a higher valuation to the wider market and, thanks to their relative size, constituted a significant chunk of the equity market. The common view of these stocks was; yes they are expensive relative to the rest of the market, but those multiples were justified by the fact that these were outstanding businesses that consistently grew their earnings. 

Sound familiar? 

If data for the late 90s is patchy, then data for the 1970s is close to non-existent. However, thanks to an interesting paper (link below) we have dug out the seven largest stocks in January 1973. 

The Titans of 1973

The Nifty Fifty’s undoing was largely due to the fact investors became more price sensitive and were unwilling to pay up for (albeit strong) growth, which coincided with a period of recession (thanks to high inflation and low economic growth). In the bear market that followed, those big, expensive stocks fell much further than the market. Morningstar has data for some of the Nifty Fifty stocks (many of them, like Polaroid, no longer exist) starting in mid-1972, and you can see how those seven stocks listed above (with Coca-Cola, American Express and Avon Products also thrown into the mix) underperformed in the severe market fall of 1973 and then lagged significantly in the subsequent bull market.

The point is, there was nothing fundamentally wrong with those companies, they were just expensive and investor appetites changed. 

What happens next? 

Who knows. It’s clear to us that large swathes of the market believe the recent period of strong relative returns from the biggest companies in the world will only continue.

The point of this note isn’t to make some grand prediction. But, like us, many will see the domination of the Global Titans, and the impact that has had on active equity funds, as jarring. 

The fact that so few have been able to beat the 50 biggest stocks in the world, and that the overwhelming majority of those that have achieved this have done so by owning more of the titans than the global index suggests something odd is afoot.  

That’s not to say this trend won’t continue, though, and we have sympathy with the view that valuations for these companies are justified given the growth they are experiencing. If it does, it means the performance of our equity portfolio will look pedestrian. 

Importantly, this isn’t because we don’t own them, we just don’t own as much of them as the wider market (the 10 largest stocks in the world constitute 4% of our portfolio compared to 20% for a global tracker).

As the old saying goes, history doesn’t repeat itself, but it often rhymes. We have seen periods in the past where it seemed futile to invest in anything other than the world’s biggest companies, but this domination of mega-caps has never continued indefinitely. When the market dynamics have shifted in the past, it has led to large falls in capital value. 

This recent domination has meant investors have been scrambling for mega-cap exposure, largely via passives (which as we have shown, have never been more concentrated). In fact, £15bn has flowed into passive equity funds in the IA sector over the past 12 months, compared to a net outflow of £89bn for active funds.

What will stop the recent rise of the Titans? Many are searching for a catalyst and there are lots of narratives that could play out (macro factors, overvaluation, investor appetite, falling demand for their products and services), but these will be much easier to spot after the event. Either way, those who have been loading up on passive exposure should take note. 

Given this mega-cap trend has been going for close to 14 years now, we suspect we are getting closer to that turning point, and when it occurs (and the market isn’t the narrow beast it is today), we believe, like the period between 2000 and 2007, it will be a much more fruitful hunting ground for active managers. 

Alex Paget, Fund Manager – VT Downing Fox Funds

Learn more about the VT Downing Fox Funds

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‍Opinions expressed represent the views of the fund manager at the time of publication, are subject to change, and should not be interpreted as investment advice. 

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