The hype surrounding artificial intelligence (AI), concentrated around the so-called ‘Magnificent Seven’ companies, has been the driving force behind US equity returns this year, with the S&P 500 up 19% so far in 2023.
However, if you strip out those market-leading tech stocks – Apple, Amazon, Alphabet, Nvidia, Meta, Microsoft and Tesla, which together make up almost a third of the index’s market cap – the remaining 493 stocks were up just 4.5% to the end of November, according to Refinitiv Lipper data.
In contrast to the ‘S&P 493’, the European Stoxx 600 index was up 11.1% year to date on a price return basis in USD terms. Should investors who are worried about US concentration risk be considering the European market heading into the new year?
See also: Calastone: UK investors pile into US equity funds in December
Speaking at a roundtable in November, newly appointed St James’s Place CIO Justin Onuekwusi said the US AI “concentration conundrum” would be a key theme in 2024.
“At the moment, the risk you’re taking to get that [double-digit S&P 500 return] is significant. We’re simply not willing to take sizeable risks relative to market cap in that area, so we are underweight the US, spreading the risk over different markets,” he says.
In terms of allocation, St James’s Place is positioned overweight to Europe among other regions.
The continent has faced sizeable macro headwinds during the past year, missing out on many of the key contributors to resilient growth experienced in other markets including the US.
Nancy Curtin, global CIO at Alti Tiedemann Global, says the lack of a large fiscal stimulus – such as US president Biden’s $1.5trn (£1.19trn) in various stimulus programmes – alongside a lack of tech leaders to take advantage of the AI trend, and an export-oriented economy that was impacted both by the slowdown in China and its proximity to the war in Ukraine, have particularly weighed on European economies in recent times.
“As in the US, the European Central Bank needed to raise rates to quell inflation, but there was no offsetting ‘consumer, technology or fiscal goodies’ to counterbalance tight money. As a result, European economies found themselves teetering on contraction, with the worst performance in Germany,” she says.
Comparing the two markets, AllianceBernstein CIO of European value equities Andrew Birse argues the case for European equities over the US has “always hinged on valuations”.
“The stellar performance in recent years of the ‘Magnificent Seven’ that has driven US equity markets higher, also means US equity investors are faced with a concentration risk only previously seen at the peak of the dotcom bubble at the start of the century,” he says.
“By contrast, European equities have struggled to keep up, with former market darlings such as luxury goods struggling in the face of a weaker China and traditional industries like mining, steel and chemicals also struggling with slowing global growth.
“But what has already been priced into markets? As a result of the divergent moves between the US and European share prices, the US now trades at historically high valuation spreads relative to Europe, while investors are also faced with unprecedented concentration risk in the US.”
To read more, visit the December edition of Portfolio Adviser Magazine
