The US equity markets continues reaching new highs. While the current administration has certainly played a role in the beginnings of the current securities rally, most experts agree that we are way passed the so called Trump trade. The Dow broke an historic 22,000 points last Wednesday and held steady through the week. That brought together quite a bit of speculation. Are we on solid grounds or headed for a massive crash? While I don’t claim to have any answers, I would like to share a few observations that might be useful to analyze this subject.
Dow 22,000 & Tech Power
The 22,000 point milestone for the Dow can be attribute mostly to two companies: Boeing and Apple. While Boeing was responsible for the initial momentum after crossing 21,000, Apple blowout earnings can certainly be credited for the final push towards the milestone. That movement highlights an important characteristic of the current equity markets in which a few technology companies have a tremendous influence on the major market indexes.
In order to put the previous statement into perspective, we can simply examine the influence concentrated in the top tech stocks in the market in 2017. Grouped under the FAANG or FAAMG acronym (Facebook, Amazon, Apple, Google), depending whether you prefer Netflix or Microsoft respectively, that group of stocks has been responsible fro 33% of the S&P 500 growth in 2017. Those companies have rallied over 30% this year increasing their market value by an astonishing $670 billion. Not surprisingly, a small movement on any of the FAANG-FAAMG stocks typically causes a major change on one of more market indexes.
Down 30,000 Next?
Now that we have quantified the influence of the top tech stocks in the market, we can either fill bullish or bearish about the prospects of the Dow and other market indexes to continue rallying in the near future. Can the Down reach 30,000 by the early 2020s? Here are some points on both sides of the argument:
1 — Power Will Continue to Concentrate on Tech
The bears that are afraid of the fact that too much market influence is concentrated into a handful of tech stocks should get accustomed to it. The current market is likely to continue dominated by technology companies as they have more room for growth in an increasingly tech-dependent world. It is more likely that Alibaba, instead Bank of America or GE, will be the next member of the FAANG-FAAMG club.
2 — A Correction Might Be Coming
Long time investors may argue that we are in the longest bull market ever seen and that we are long due for a correction. this picture makes even more sense if you factor in that the FAANG-FAAMG cohort is trading at about 62 time earnings which can be placed on the upside of the valuation spectrum.
3 — Tax Reform Could Boost Tech Stocks
The market seems to be really hopeful about the potential of congress passing Trump’s proposed tax reform. Most the FAANG-FAAMG stocks have large sums of cash parked overseas that could be moved back to the US under the correct tax policy.
4 — The Psychology Factor
Love it or hate it, markets are far from being completely objective and follow deeply psychological patterns. From that perspective, a high flying Dow pushed by a very small cohort of stocks might defy the idea of rationality of many investors. That level of psychologically-induced fear can force a correction on the markets despite the performance of the underlying stocks.
5 — FAANG-FAAMG are Rapidly Diversifying
The killer performance of FAANG-FAAMG stocks has translated into very rich balance sheets that has allow them to become more ambitious about expanding into other market segments. Alphabet is venturing into self-driving cars through its subsidiary Waymo, Facebook is becoming a news/media powerhouse, Amazon is expanding into brick and mortar retail and Apple is…well…just selling a lot of iPhones but hopefully you get my point ;) The top tech stocks are rapidly gaining leadership positions in new industries which can make them even more resilient to market swings.