The S&P 500 Has Never Looked Like This Before. — Transcript

The S&P 500 is highly concentrated with just 10 companies making up 40% of the index, driven by large tech firms tied to AI growth.

Key Takeaways

The S&P 500 is far less diversified than many investors believe due to extreme concentration in a few tech stocks.
Passive investing and market cap weighting create a feedback loop that inflates the dominance of top companies.
The current market risk is tied to the AI theme and the performance of a handful of large-cap tech firms.
Investors should be aware that owning the S&P 500 is effectively a concentrated bet on continued tech and AI success.
High valuations increase vulnerability if these companies fail to meet growth expectations.

Summary

Currently, 10 companies make up about 40% of the S&P 500, an unprecedented level of concentration.
Historically, the top 10 companies accounted for around 20-25%, even during the dotcom bubble peak.
The S&P 500 is market cap weighted, so larger companies like Apple, Microsoft, and Nvidia dominate the index.
Many ETFs overlap heavily in holdings, causing portfolios to be less diversified than they appear.
The concentration is largely centered around large-cap tech companies benefiting from the AI growth narrative.
This creates an illusion of diversification because these companies are economically linked through AI.
Passive investing inflows amplify the concentration by funneling more money into the largest stocks regardless of valuation.
High PE ratios in these companies indicate expectations of long-term growth that may be risky if not met.
The market's dependence on a few companies means a slowdown or failure to exceed expectations could have massive consequences.
Tools like Investing Pro help analyze holdings and investing themes, highlighting the concentration risk.

Full Transcript — Download SRT & Markdown

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This video is brought to you by Investing.com. Over the past few years, the stock market has been on an incredible run. But underneath the surface, something very strange has been happening. Today, just 10 companies make up about 40% of the entire S&P 500. Now,

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that's not normal. In fact, we've never seen anything like it before. And the problem isn't just that the market's concentrated, it's where that concentration sits. Because right now, the entire market is effectively riding on one theme. And if that theme were to

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crack, the consequences would be pretty massive. So, in this video, let's break down what's actually going on, why it matters, and whether this is a genuine risk or just the new normal. So, let's start with what's actually going on

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here, because I'm not going to lie, the numbers are pretty wild. Today, the top 10 companies in the S&P 500 make up about 40% of the entire index. Think about that for a second. That's 10 companies out of 500, making up almost

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half of the entire index. And to really understand how unusual that is, look at this context. Historically, that number usually sits closer to 20 to 25%. Even at the peak of the dotcom bubble back in 2000, it didn't reach where we are

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today. So, when people say just buy the S&P 500, it's well diversified. You know, that used to be very true, but today it's a lot less true than people realize. Now, the reason this happens comes down to how the index is actually

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built. So, the S&P 500 isn't equally weighted. It is a market cap weighted index, which means the bigger the company gets, the more influence it has on the index. So when companies like Apple, Microsoft, Nvidia go on these

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massive bull runs, they're not just rising in value, they're starting to dominate the index, which causes flowing effects that I'll explain later. But this is worrying for investors, right?

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Particularly those that buy the S&P 500 because chances are if you're buying the S&P 500, you're probably trying to get wide diversification, right? Exposure across 500 companies, but in reality, a huge chunk of your ETF is riding on just

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a handful of stocks. So overall, diversification, it hasn't disappeared completely, but the index has quietly become a lot more concentrated than most people realize. So that's the first point. And what's more interesting is where that concentration sits. Because

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when you look under the hood, this isn't 10 completely different companies spread across completely different parts of the economy. In reality, a huge portion of the top 10 is tied to the same underlying theme and that is the risk.

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Right now, the market is heavily concentrated in large cap technology and more specifically companies that are all benefiting from the same core narrative, artificial intelligence. You've got companies building the chips, companies building the infrastructure, companies building the platforms and the end

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products. And that's the thing. On the surface, they look different. They got different CEOs. They got different products, but economically, they're in the same boat. This is where the illusion of diversification breaks down.

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And I want to show you this in practice. For example, this is a portfolio made up of five ETFs. So, five diversified investment products. We've got a global 100 ETF, an S&P 500 ETF, a NASDAQ 100 ETF, a total world ETF, and a growth

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ETF. But if we click on one of these and scroll down on Investing Pro, you can see the holdings. For example, here you can see Nvidia, Google, Apple, Microsoft. But if I do this for each one of these ETFs, Nvidia, Google, Apple,

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and Microsoft are major holdings of every single one. In fact, if you invested $10,000 into each of these five ETFs, so $50,000 total with this portfolio, you would have over $15,000 just in these four stocks. Your portfolio, yes, it would have exposure

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to thousands of stocks. Yet, just four of them make up over 30% of your portfolio. Crazy. And while I'm here, I also did just want to shout out Investing Pro by Investing.com, which is where I'm sourcing a lot of this data

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from. Investing Pro is a really handy tool that I use to keep track of my own watch list, but you can do a lot of things with it. For example, you can check out the ideas tab, which helps you

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follow gurus like Buffett or Seth Klarman or other value investors. And Prop AI is also a super useful tool to follow different investing themes over time. For example, you can look at top value stocks if you're stuck for ideas.

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You can look at best of Buffett and so on. But in my opinion, the coolest feature is Warren AI, which integrates with their platform and really helps when it comes to investing research. For example, it has even helped me with this

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video explaining how bad the concentration problem currently is in the S&P 500. Also, why it's a problem and what you need to take away from it as an investor. I also just wanted to plug that Investing.com is currently

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running one of their flash sales with up to 55% off. But the fun thing is that my link, my referral link in the description has an extra 15% discount on top of that. So, definitely check out the link in the description if you'd

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like to learn more. But back to the video and that kind of leads us straight into the core problem with the current levels of concentration. And that is that right now because you own all of these tech companies in an index fund,

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you're actually really making a concentrated bet on AI and its continued growth. So demand staying strong, margins holding up, and also that there won't be road bumps along the way. That these companies keep delivering exceptional results. But with that said,

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I also want to be really fair here. That could happen. It's not impossible. And there is a reason why the market looks like it does today because these companies are performing exceptionally.

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But when they perform well in the short term, it creates a bit of a feedback loop. When a company performs well, its market value increases. And because the S&P 500 is market cap weighted, that means that the company automatically

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takes up a larger portion of the index. But then because so much money today flows into passive investments like index funds and ETFs, specifically ones that track the S&P 500 like SPY or IVV or VO, etc., more money gets allocated to

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that company simply because it's already big. So you get this reinforcing cycle where the winners keep getting more money flowing into their stock. They perform well, they grow larger, that attracts more inflows through ETFs, which pushes the price higher, which

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makes them even larger again. And importantly, this happens regardless of whether the valuation still makes sense or not. Because remember, the passive investing system does not ask, is this company overvalued or undervalued? As Michael Burry would say, we are removing

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price discovery from equity markets. Passive investing is simply allocating investors' money based on market value.

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Now layer on top of that the fact that we've had a very strong bull market, particularly in large cap tech, and you can see how we got here. These companies have delivered very strong growth, very strong profitability, and investors have

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rewarded that. But at the same time, the structure of the market has amplified that success into something much bigger.

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So much so the market has now become dependent on only a few companies. And that's where things start to get risky because now we're at a point where these companies don't actually need to collapse for there to be a problem. They

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just need to stop exceeding expectations. Think about what's currently priced in. Have a look at these PE ratios. Nvidia 44, Tesla 410, Google 30, Amazon 32, Apple 35, Microsoft a little bit better at 24.

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Just as a reminder, the PE ratio shows how many years of current earnings investors are willing to wait before they make their money back. So with Nvidia at 44, investors are willing to wait 44 years for their money back at

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current performance. So of

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doesn't quite live up to the hype, that can be enough to trigger a complete repricing. And because these companies make up such a large portion of the index, that repricing doesn't just affect a few stocks, it would drag down

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the entire market. And this is where thematic concentration really matters. Because if these were 10 completely unrelated companies, you might expect one to struggle, but the others would just offset it. But that's not the situation we're in. And these companies

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are all exposed in different ways to the same underlying drivers. So if something causes that narrative to weaken, it's very likely they move down together. So the first risk to the narrative is what we've just described. The idea that

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earnings growth doesn't continue as rapidly in these stocks. Or in other words, we see a bit of an AI slowdown.

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Now, I do just want to acknowledge that as of right now, yes, a lot of these companies are still guiding for growth.

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AI spending is exploding. ASML and TSMC are still guiding for really solid growth. Demand for compute is still exceeding supply. So, this is not a fear-mongering video that the stock market is going to crash next week, but there are a couple of little cracks

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forming. For example, Nvidia's growth rate has started to decelerate versus prior years. There's also growing concern as to whether there will be solid ROI on the $600 billion worth of AI spending these companies are committing to, and questions are being

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asked about what AI's true profitability is. So, that's the first thing. But now on top of that, you've also got a number of external risks that could act as catalyst. One of the biggest is geopolitical risk, particularly around

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Taiwan. A huge portion of the global semiconductor supply chain runs through TSMC, Taiwan semiconductor. TSMC makes 90% of the world's most advanced chips and their US factories being built are nowhere near volume production of these advanced chips. So if anything were to

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disrupt chip manufacturing in Taiwan, whether it's political tension or its trade restrictions or something even more severe, that doesn't just affect one company, it's the entire AI ecosystem from chip designers to cloud providers to the enduser products and

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platforms. So that's a really big risk. And also more recently, we've also got the risk of interest rates staying higher for longer. With everything we've seen in Iran, the fallout has been higher oil prices, which ripple through the whole economy, causing everything to

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get more expensive. But when inflation picks up, the central banks of the world certainly won't be lowering interest rates. Now, why is this an issue? Well, because the large cap tech companies tend to be very sensitive to changes in

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discount rates because so much of their valuation is tied to future growth. If rates remain elevated or move higher again, that puts pressure on valuations across the board, particularly lofty valuations. Remember, interest rates are like gravity on the stock market. The

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higher they go, the harder gravity pulls. We saw that through 2022, and there's fears we might see it later this year and also into next year. And if that were to happen, because of the concentration, that pressure gets

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transmitted directly into the S&P 500 index. And then there's the structure of the market itself. Because remember, the same passive flows that help push these companies up can also work in reverse.

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If we were to see outflows from ETFs or a rotation away from large cap tech, those flows don't discriminate. They sell based on size, just like they buy based on size. If you had a $1 billion draw down in an S&P 500 ETF, because

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Nvidia is 7% of the index, $70 million would immediately get sucked out of just that one company. So the biggest companies, the ones that are holding the index up are also the ones that would get hit the hardest on the way down. So

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when you step back, the risk isn't just, you know, one thing. It's actually multiple pressures that could each start to impact the market and feed on themselves. And that's what makes this setup potentially unstable. If growth expectations start to come down, that

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can lead to lower valuations. Lower valuations lead to weaker stock prices. Weaker stock prices will trigger outflows from ETFs. And those outflows then mechanically push the larger stocks down even further through selling pressure which feeds back into the

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index. But I will say sentiment is the thing that plays a huge role here because you can think about my argument in reverse too. The market is actually so concentrated that if AI does really well that will lead to outsized returns

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in the S&P 500 because if these seven companies go up a decent amount the whole index will just get dragged up a lot too. When everything is working concentration actually feels like a really good thing. It feels like the

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market is being led by the best companies in the world. But it's when sentiment shifts that the same concentration can flip into weakness very quickly. Look at something like IGV, which is a tech and software ETF.

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In the last few years, SAS has been the hot theme and the ETF has posted really strong returns. But because the sentiment has turned so quickly on SAS companies, the whole ETF is down 25% since September. A massive drop for a

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collection of 117 companies. And this is where comparison to past cycles becomes really interesting. imperials like the.com bubble you also saw a handful of companies dominate the market narrative and while today's companies are far higher quality the structure of the

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market starts to behave in a similar way what I mean by that is that you know the pool of market leaders narrows dependence increases and the margin for error goes down and when expectations are high and positioning is really

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concentrated it doesn't take a catastrophic event to cause a downturn just a sentiment shift can do it now to be clear This does not mean the market is about to crash. These companies are incredibly strong businesses and they

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may very well continue to perform. Honestly, I hate it when people say these videos are nothing but fear-mongering. No, that's not the point. But what it does mean is that the market is less resilient than it appears. It's risky. It has less

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diversification than it used to, and it is more exposed to a specific set of outcomes, proving to be true. So, what does all this actually mean for you as an investor? Good question. Well, firstly, I want to reiterate that the

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market isn't broken, and it doesn't mean you should get out or not invest. The reality is these companies dominating the index are some of the best businesses in the world. They're incredibly profitable. They have strong competitive advantages. They have

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genuinely earned their place at the top. So, this isn't a story about, you know, bad companies. It's just a story about how the structure of the market has changed. And what it really means is that you need to be more aware of what

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you actually own. It's about awareness and making sure your portfolio is actually doing what you want it to.

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Because if you're investing purely in something like an S&P 500 ETF, you're not as diversified as you might think. A large portion of your return is going to be decided by a relatively small group of companies, all exposed to similar

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risk. Now, that doesn't mean you need to go out and completely change your strategy, but you should understand the trade-offs. You're getting exposure to some of the strongest companies in the world, but you're also taking on a lot

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of concentration risk. So, it might be a time to rebalance. It might be a time to look elsewhere rather than just big tech. Now, of course, I'm never going to tell you guys what to do with your own

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money, but it is just important to understand and have an awareness of what's going on in your own portfolio.

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And if that's something you need help with, I do just want to shout out again investing.com and investing pro. It's a great tool to keep on top of what you hold. And at the moment, if you'd like to take advantage, you can. They've got

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their flash sale. You can score 55% off plus an additional 15% off with my referral link in the description. And finally, if you are interested, if you're just getting into investing and you want to learn how to apply the

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Warren Buffett strategy from start to finish to find really great companies with competitive advantages that have great management teams that are undervalued. Well, my book, The New Money Strategy, is now out. It feels crazy to say that, honestly. It's been

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so so long, but it is finally out. You can find it in bookstores. You can find it in airports. And if you see it out there, please, I would love it if you sent me a photo. So, tag me @

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new.mmoney.official. I would love to see you guys out there finding the book in the wild. Uh, and I'll be sure to share it on my Instagram stories, too. Also, thanks to everyone so far who has picked up a copy. It really does help me out a

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lot. If you've picked up a copy, if you're reading it again, send me a photo, send it over on my Instagram, make sure you tag me. I would love to share it. And if you want to order it if

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you haven't got it already, you can now do that. So, just scan the QR code on screen or you can check out the link in the description. But apart from that guys, thank you all very very much for

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watching and I'll see you in the next video.

Topics:S&P 500stock market concentrationlarge cap techartificial intelligencemarket cap weightingETF diversificationpassive investinginvestment riskNvidiaApple

Frequently Asked Questions

Why is the S&P 500 considered highly concentrated now?

Because just 10 companies make up about 40% of the index, which is historically unprecedented and driven by large tech firms dominating the market.

How does market cap weighting affect the S&P 500 index?

Market cap weighting means larger companies have more influence on the index, so when big tech companies grow, they dominate the index and attract more passive investment.

What is the main risk of the current concentration in the S&P 500?

The main risk is that the market is heavily dependent on a few tech companies tied to AI growth, so if these companies fail to meet high expectations, it could lead to significant market consequences.

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