The year 2023 saw a rise in seven stocks that far outpaced the performance of other U.S. equities. When you see that only seven stocks were responsible for 76 percent of the S&P 500’s return, it gets your attention.
The popular and fitting name of the “Magnificent Seven,” or “Mag 7,” refers to seven U.S. tech stocks: Alphabet (formerly Google), Amazon, Apple, Meta (formerly Facebook), Microsoft, Nvidia, and Tesla. These seven companies delivered a return of 111 percent in 2023, which helped bolster the S&P 500’s return to over 20 percent. Interestingly, without the Mag 7, the return by S&P 500 stocks would have amounted to 8 percent.
The technology sector of the S&P 500 is one of eleven S&P 500 sectors that represent the strength or weakness of U.S. economic development. In hindsight, it would be easy to think that an investor should have invested only in these seven companies. But such a concentration would expose the portfolio to risks that could prove unsuitable for a particular client’s liquidity needs, time horizon, and risk tolerance.
Consider that a portfolio invested in the technology sector only in 2022 would have returned -28 percent, compared to the overall S&P 500 return of -18 percent. For 2023, the technology sector returned +57%, compared to the overall S&P 500 return of +26%. Though not a long timeframe, the comparison accurately showcases an important point reflected in comparing index funds to a concentrated investment strategy. The diversified portfolio doesn’t participate in the full upswing, but neither does it further compound negative returns, the core of the strategy of investing across multiple asset classes; diversified portfolios are designed to weather ever-changing market conditions. Predicting economic cycles is difficult for even the brightest economists, further emphasizing the need for a forward-looking disciplined investment strategy.
Magnificent Seven vs. Index funds
To further outline the differences between investing solely in the Mag 7 versus an index fund, it’s important to point out that the two represent distinctly different investment approaches. Research supports several reasons to favor index funds over concentrated stock investments:
Diversification: Index funds provide exposure to many businesses and companies, which reduces the risks associated with being invested in only a handful of companies. Relying on only a few companies for portfolio performance is risky, more so when all the companies are in the same business sector, which is the case with the Mag 7.
- Volatility: The broader the exposure, that is, the more stocks invested across multiple industries, the smoother the investment experience over time.
- Accessibility: Buying shares of all of the Mag 7 poses share price hurdles for target allocations, which could result in owning the stocks in unequal proportions compared to benchmark index weights. An S&P 500 index fund allows investors to gain exposure to the Mag 7 plus another 493 companies at a much lower per share price than buying only the Mag 7.
- Performance: Historically, individual stocks and specific sectors have not consistently outperformed the market over the long term. Index funds aim to match market performance, which has been more reliable and consistent over longer periods.
- Rebalancing: Because index funds aim to match market performance, it’s important for an asset allocation to not be overweighted to recently outperforming positions or underweighted to poorly performing positions. An index fund automatically keeps the allocations aligned with its intended risk and return profile.
Investing solely in the Mag 7 might seem attractive based on past performance, but, as the disclaimer notes, “Past performance is not indicative of future results.” Every individual requires a customized financial planning strategy that takes into account their goals, risk tolerance, time horizon, and diversification preference.
For more information or to talk about a customized financial plan specific for you and your family, call me to schedule an appointment at HBKS Wealth Advisors at 772-287-4110, or email me at jnunnery@hbkswealth.com.
IMPORTANT DISCLOSURES
The information included in this document is for general, informational purposes only. It does not contain any investment advice and does not address any individual facts and circumstances. As such, it cannot be relied on as providing any investment advice. If you would like investment advice regarding your specific facts and circumstances, please contact a qualified financial advisor.
Any investment involves some degree of risk, and different types of investments involve varying degrees of risk, including loss of principal. It should not be assumed that future performance of any specific investment, strategy or allocation (including those recommended by HBKS® Wealth Advisors) will be profitable or equal the corresponding indicated or intended results or performance level(s). Past performance of any security, indices, strategy or allocation may not be indicative of future results.
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