Beware of narrowing vision

By now, the ‘Magnificent 7’ stocks need no introduction. But for completeness, I am going to do it anyway. The group, comprising of Alphabet, Amazon, Apple, Meta, Microsoft, NVIDIA, and Tesla, came into prominence in the past 18 months as a high earnings growth, tech related group that were hailed as prominent beneficiaries of the acceleration in artificial intelligence (AI).

The earnings growth this cohort have managed to record is eye catching and has fuelled a surge in the broader stock market this year. Of the 11% gains in the S&P 500 this year, 53% came from the Mag 7 and 32% from Nvidia alone[1]. The narrowness of performance so far this year is a feature to be aware of and has caused some interesting anomalies.

Within the US market, some investors will point to the extreme valuation spreads between the technology/growth dominated side of the market versus the value style and small cap. While that is absolutely true, we would argue that there are also some diverging fundamentals between these areas (growth rates, innovation, cash generation and balance sheet strength for example) that underpin at least some of the valuation difference.

Having weathered a few cycles ourselves, we have seen the long term impact for clients who become overly focused upon subsets of the market and miss opportunities elsewhere. Akin to the scientific advice for healthy eating, it is also important in investing to keep everything in moderation. Opportunities like the AI theme don’t come along every day, and we believe that the Mag 7 continue to be among the most attractive companies globally (but we don’t think this is the case for the whole cohort). While we want to be investing in the tech space, it shouldn’t be a singular focus and investors should not let the group’s eye watering returns blinker them to the compelling opportunities elsewhere in the world.

The Mag 7’s acceleration over the past few years has also meaningfully boosted the headline returns of the US stock market against international peers and left a generation of investors wondering if they should bother with markets outside the US. These investors would have absolutely been right to ignore non US markets so far this decade but, with the earnings expected to be more evenly spread out across the broader S&P 500 in the quarters to come, it does beg the question as to how much investors should widen their universe.

It would be all too easy to ignore global markets and only focus on the US given the S&P 500 Index has produced a total return of 32% in the last two years vs the MSCI World ex-US Index’s 20%, and over 10 years the numbers are even more stark (up 230% and 57% respectively).[2] However, as the chart illustrates, the best performing stocks in the world tend to be more diverse in nature and indicative of why investing globally and with breadth is crucial.

So, let’s look at Europe – an area that has been unloved for many years but interestingly the equity region where the most fund managers are now overweight, according the BofA Fund Manager Survey. Although some have tried to inject Mag 7-like levels of marketing energy into the European market by highlighting groups such as the “Granolas” (GlaxoSmithKline, Roche, ASML, Nestle, Novartis, Novo Nordisk, L’Oréal, LVMH, AstraZeneca, SAP and Sanofi), there is no universally agreed-upon “European Magnificent 7” stock basket.

Nonetheless, it is clear that there is an identifiable cohort of best-in-class multinationals with global leadership across emerging themes like semiconductors, GLP-1 drugs, aspirational consumption, and industrials. When we look at some of these companies relative to close peers in the US, we see that we can invest in names with more attractive growth profiles but trading at a material discount. Indeed, we also get opportunities to invest across the wider AI capex chain.

Now, it has to be said that the “Europe looks cheap” narrative has been widespread for years and has been consistently wrong versus the US. The European stock market is close to a record discount versus the US market on many measures but we don’t subscribe to the view that the discount is a catalyst for outperformance, not least as it is too simplistic due to index composition. We would also highlight that there is a tail of companies that are less focused on shareholder value creation in Europe that do hold back the attractiveness of the region overall.

But, mindful to see the full breadth, we think that there are also real winners emerging too. There are many businesses in Europe that have embraced a culture of winning through innovation and operational excellence to generate powerful investment returns. Importantly, we note that many European names also now come with tangible shareholder returns from both from dividends and buybacks. Europe’s buyback yield has climbed materially in recent years, moving above that in the US, which is an interesting development given the European market also provides a much higher dividend yield – the combined yield in Europe this year is expected to be in the range of 5.5% vs. the US at 3.2%. Our analyst team also expects European earnings growth to materially increase in the coming year (2025), with an estimated growth rate in the region of over 11% currently forecast (still lower than the 15% expected in the US but certainly not worth ignoring given the valuation starting point).

It is not just me that is excited by the breadth of the opportunity set in global equities. Our client teams, particularly in the US, have anecdotally commented that they have had more global equity conversations in the past six months than they have in the preceding decade. I found the same myself on a recent client trip in the Middle East.

So what is the key message? While (some of!) the Magnificent 7 have certainly earnt their places in portfolios and the US continues to dominate our global portfolios, investors should not let the group’s eye watering returns blinker them to the compelling opportunities elsewhere in the world. By combining best-in-class-research with a wide opportunity set, we should be able to capitalise on idiosyncratic opportunities around the world. Remember the fundamental rule of active management: Insight x BREADTH delivers the best risk adjusted returns. In a market behest by narrow performance, it is worth bearing that in mind.

[1] J.P. Morgan Asset Management, as of May 31, 2024. Past performance and forecasts are not a reliable indicator of current or future results. Indices do not include fees or operating expenses and are not available for actual investment. Any securities highlighted above have been selected based on their significance and are shown for illustrative purposes only.

[2]J.P. Morgan Asset Management, Morningstar. Data as of May 31, 2024. Indices used are MSCI World ex USA NR USD and S&P 500 TR USD. Past performance and forecasts are not a reliable indicator of current or future results. Indices do not include fees or operating expenses and are not available for actual investment.

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This is a marketing communication and as such the views contained herein are not to be taken as advice or a recommendation. The value of investments and the income from them may fluctuate in accordance with market conditions and investors may not get back the full amount invested. Past performance and yield are not a reliable indicator of current and future results. There is no guarantee that any forecast made will come to pass. J.P. Morgan Asset Management is the brand name for the asset management business of JPMorgan Chase & Co. and its affiliates worldwide. Our EMEA Privacy Policy is available at www.jpmorgan.com/emea-privacy-policy. This communication is issued in Europe (excluding UK) by JPMorgan Asset Management (Europe) S.à r.l.and in the UK by JPMorgan Asset Management (UK) Limited, which is authorised and regulated by the Financial Conduct Authority.  Material ID: 091a242006085512