Polar Capital Technology boasted a 50.5% increase in its share price over the financial year ending 30th April, but manager Ben Rogoff said that “concentration risk remains elevated” within the portfolio.
Top allocations to Magnificent Seven stocks such as Nvidia, Microsoft, Alphabet, Apple and Meta helped boost the trust’s shares more than twice as high than the IA Technology & Technology Innovation average return of 22%, yet their high weighting in the portfolio – accounting for 39% of all its assets – leaves it reliant on a handful on just five names.
This concentration is even more apparent when looking at the top ten holdings, which account for more than half (53.3%) of the entire portfolio.
Rogoff is aware of these risks, but highlighted that performance would not have been as strong over the past year if he and fellow managers Fatima lu, Nick Evans, Xuesong Zhao and Alastair Unwin had not taken such large positions in these leading stocks.
“It would be remiss of us not to again remind shareholders about the concentration risk both within the trust and the market-cap weighted index around which we construct the portfolio,” he said. “After another year of large-cap outperformance, this risk remains elevated.
“We continue to believe that this concentration risk is justified because they are unique, non-fungible assets that capture the zeitgeist of this technology cycle and appear well positioned for AI given their significant scale advantages.
“That said, we remain unafraid of the idea of moving to materially underweight positions in the largest index constituents should we become concerned about their growth or return prospects, or should we find more attractive risk-reward profiles elsewhere in the market.”
See also: The tech giants are facing an ‘existential event’
Valuation risks come hand in hand with these concerns around concentration. The share prices of the Magnificent Seven have skyrocketed over the past year, making some investors worried about a potential downturn.
Rogoff said their valuations are “extended, but not unreasonable,” especially if central banks cut rates later this year.
“Equities tend to rally after the Fed begins a cutting cycle, although the returns are (unsurprisingly) better in non-recessionary scenarios,” he added.
Historically, the S&P 500 has returned 18% in the 12 months following central banks’ first rate cut in a normal market environment, but this shrinks to 7% in a recessionary scenario.
It is for this reason that Rogoff sees a recession or ‘hard landing’ as “the most significant risk to the market”.
But even if this does create volatility for tech companies over the short term, Rogoff is confident that companies adopting AI will outperform over the longer term.
“Whether there is a recession or not and what equity markets do over the next six to 12 months perhaps misses the point,” he said. “Astounding new innovations such as AI augur well for a longer-term innovation-led growth and prosperity cycle.
“Markets appear fully valued if we think the timeline to AI’s economic impact is 5+ years away, but much more reasonable if that timeline is sooner. The shortening timeline to Artificial General Intelligence (AGI) – the ability to understand, learn, and apply knowledge across a broad range of tasks and domains at a level comparable to human intelligence- presents a further upside scenario.”
See also: Alliance Trust: There’s more to markets than the Magnificent Seven
