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What You Should Do About the Stock Market’s Giant Problem
More than half the S&P 500’s return last year came from just seven companies. That’s a concern—but not for the reason that market commentators claim.
By Jason Zweig, WSJ
Feb. 7, 2025 11:00 am ET
Have the giants gotten too big for anyone’s good?
This week, the top 10 companies in the S&P 500 made up more than 37.5% of the index’s total market value. Many market commentators will tell you the stock market has never been so dangerously overconcentrated in so few stocks.
They’re wrong. The U.S. stock market has often been even more concentrated in the past. The problem isn’t that concentration is making the market top heavy; it’s that it’s making it overvalued.
How much you should worry about that depends less on what stocks do than on how capable you are of counteracting it. The younger you are, the less you probably need to worry. You have an edge older investors don’t: a lifetime of labor income ahead of you.
To understand what is and isn’t worth worrying about, let’s review some basic facts.
More than half the S&P 500’s 25% total return last year came from only a few companies, the so-called Magnificent Seven: Alphabet, Amazon.com, Apple, Meta Platforms, Microsoft, Nvidia and Tesla. Nvidia alone, with its 171.2% return, produced more than one-fifth of the entire market’s gain in 2024.
But such dominance by a handful of companies isn’t unusual.
Tech stocks total 31% of the S&P 500’s market value today. In 1812, financial stocks—banks and insurance companies—constituted an estimated 71% of total U.S. stock-market capitalization. No other sector even amounted to 14%, according to financial historians Richard Sylla of New York University and Robert Wright of Central Michigan University.
In 1900, railroads accounted for 63% of total U.S. stock-market value, according to finance researchers Elroy Dimson, Paul Marsh and Mike Staunton of London Business School and Cambridge University. The Pennsylvania Railroad alone composed 12% of the U.S. stock market. Today’s biggest stock, Apple, is less than 7% of the S&P 500’s market value.
It isn’t even clear that lower concentration would be better for investors. The top 10 stocks’ share of total U.S. market value fell from about 30% in the mid-1960s to barely half that level in 1981, Morgan Stanley investment strategist Michael Mauboussin found. During that long period of declining concentration, stocks produced returns well below their long-term average.
Because stock returns are positively skewed—losers can only shrink to zero, while winners can grow indefinitely—it’s natural for some stocks to get bigger and bigger for years on end.
The only sensible conclusion is that there’s no optimal level of concentration and no bright line marking the point at which the biggest stocks are so big that they send risk sky-high.
What investors should worry about, though, is overvaluation.
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The Intelligent Investor
Jason Zweig writes about investment strategy and how to think about money.
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The S&P 500 is trading at about 22 times what analysts expect its constituent companies to earn over the next 12 months. That’s far above its average, since 1990, of 16.4 times expected earnings, according to Strategas Research Partners.
By just about every other measure—including price relative to sales, cash flow, book value, the past year’s earnings, long-term inflation-adjusted earnings—stocks are within a whisker of multidecade highs, according to Strategas.
Even after the stumble in tech stocks late last month, the Magnificent Seven traded this week at an average of 43.3 times what analysts expect them to earn over the next 12 months.
And with 10-year Treasurys yielding 4.4%, up sharply from last fall, the relative risk of stocks is higher than it has been in years.
Many Wall Street Journal readers have emailed me recently with worries about how expensive U.S. stocks have gotten. One, Andrew Jacobs, asked: “Most advice for people in their 30s is to be aggressive with mostly stocks…. What if I [turn out to be] stock-heavy in the wrong decades? I would have wished I had a more balanced portfolio.”
I asked three investing theorists about this: William Bernstein of Efficient Frontier Advisors in Eastford, Conn.; Edward McQuarrie, a retired business professor at Santa Clara University who studies long-term asset returns; and William Sharpe, a finance professor emeritus at Stanford University who shared the Nobel Prize in economics in 1990.
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All agreed: Despite the popular belief that stocks will always outperform bonds if you hold them long enough, they are likely, but never certain, to do so in the long run. The more expensive stocks are today, the more you should temper your expectations that they will do well in the future.
All three concurred on another point: When you’re in your 20s, 30s and 40s, your human capital is huge. That’s the value, in the present, of the money you will earn from your career in the future. For most people, it’s like a bond. It will deliver a reliable stream of income, with minimal chance of loss, for decades to come.
So putting most of your money in stocks when you’re young makes sense—even if, as now, they appear overvalued. Your human capital is an effective long-term hedge against a slump in your financial capital. Investing in countries outside the U.S., where stocks are much cheaper, is another way to lower the risk in your portfolio.
If you’re in or near retirement, though, you no longer have decades of paychecks in front of you, and your human capital has lost its power as a hedge.
Treasury inflation-protected securities, or TIPS, are an ideal way to cushion your wealth against the risk of a stock-market decline and the corrosive effects of inflation. I’ve bought them, and I think you should, too—now more than ever.
Write to Jason Zweig at intelligentinvestor@wsj.com
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