Commentary on Political Economy

Thursday 4 January 2024

America has a concentration problem

Gillian Tett · Jan 5, 2024

Eighteen years ago, I started pondering concentration risks in the American equity markets. The issue was the banks: back then there was such heady optimism about financial innovation that the finance sector’s capitalisation had grown to a point where it accounted for almost a quarter of the Standard and Poor’s index.

Many investors assumed this lopsided picture was normal and would continue indefinitely. But then the credit bubble burst in 2007, and the finance sector shrivelled, creating a more balanced equity world in which healthcare, industrials, information technology and other business sectors had similar weights, echoing the economy.

Could this saga play out again in 2024? It is a question now weighing on some investors’ minds — but this time with tech, not finance. Last year the market cap of the so-called Magnificent Seven tech stocks — Apple, Amazon, Alphabet, Meta, Microsoft, Nvidia and Tesla — jumped 72 per cent, amid wild excitement about tech innovation in general and artificial intelligence in particular.

Torsten Slok of Apollo calculates that this gave them a $12tn market capitalisation, equivalent to the entire Canadian, British and Japanese equity exchanges combined. It also means the IT sector accounts for around 30 per cent of the S&P (or 37 per cent if you include the closely linked communications services sector).

Some investors think — or hope — this lopsided pattern will continue. Maybe so. After all, tech companies (unlike banks) make tangible products that arguably drive real economic growth. And this picture is not (yet) as extreme as it was during the dotcom bubble of 2000, when the IT sector rose to 35 per cent of the S&P — before imploding.

However, nerves are starting to fray: the Nasdaq tumbled this week after Barclays downgraded its outlook for Apple. And the history of 2007 — and 2001 — suggests that if anything causes the hype around tech innovation to crack, there could be a contagious loss of faith that hurts many investors.

After all, as AllianceBernstein notes, market concentration in the Magnificent Seven has “distort[ed] index exposures”. If you include this group in the so-called Russell 1000 index that is often used for mutual funds, it rose by 23 per cent in 2023. Without them, it jumped just 12 per cent: a tech sector tail has been wagging the S&P 500 dog.

But as investors ponder this sectoral imbalance, there is a second type of concentration which has also emerged, but has received far less attention — around the ownership of equities.

The national myth likes to present the US political economy as one based on democratic shareholder capitalism. In some senses, this is true: 61 per cent of the population currently owns equities, often via 401K retirement plans. And awareness of the markets is arguably greater than in countries such as the UK.

But the dirty secret behind this myth is that, while access to equities is widespread, ownership is becoming more concentrated. Two decades ago, the wealthiest 10 per cent of Americans held 77 per cent of corporate equities and mutual funds, according to calculations by Lyn Alden, a strategist. The poorest 50 per cent held just 1 per cent, leaving the middle-to-upper cohort with 12 per cent.

Today, however, the wealthiest 10 per cent own 92.5 per cent of the market — a “record high concentration”, Alden notes. And while the richest 1 per cent owned just 40 per cent two decades ago, their share stood at 54 per cent in the most recent data from 2022.

This is striking, particularly since the family offices which typically manage the assets of America’s ultra wealthy are actually moving away from public markets, in relative terms. A survey of 330 family offices by Campden Wealth and RBC suggests that their portfolio allocations to public equity and private capital markets were respectively 28.5 per cent and 29.2 per cent last year — the first time the latter has exceeded the former.

A cynic might argue that concentration is just an inevitable consequence of a winner-takes-all model of capitalism (or, as the economist Thomas Piketty noted, a world in which returns on capital keep outstripping real growth and wages.)

An angry cynic might also point out that nobody will care if this pattern means America’s wealthy bear the brunt of any future collapse of tech stocks, at least in gross terms. (In rela- tive terms it would probably be the less wealthy who feel the most pain, since their 401Ks tend to be focused on the index, and thus less diversified and protected than family office port- folios.)

But if nothing else, these rising con- centrations merit far more public debate, since they challenge America’s self-image of its political economy and financial democracy.

I doubt any of this will get much air- time in the 2024 election campaigns; Joe Biden’s White House generally does not talk much about the stock market. But it would behove politicians to ask ques- tions about how they can create an equity world in which as many people as possible feel like they have skin in the game. And investors, for their part, should watch those Magnificent Seven — and remember what happened in 2007 and 2001.

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