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In April, when Michael O’Rourke first referred to the top technology stocks as “the Magnificent Seven,” he did not anticipate the widespread use of this term that has dominated market discussions since mid-May.
However, recent trends, including the lackluster response to Nvidia’s impressive earnings, indicate that a less grandiose nickname may be appropriate.
“When these stocks accounted for 88% of market gains, the name seemed fitting. It was an extraordinary achievement,” says O’Rourke. “I don’t enjoy talking about these seven stocks every day, but they continue to drive the market.”
So far this year, the combined performances of Apple, Microsoft, Google parent Alphabet, Amazon, Tesla, Nvidia, and Facebook parent Meta have contributed to three-quarters of the gains in the S&P 500. While their performance has been remarkable, they are currently not driving stock prices higher.
Over the past four weeks, the Magnificent Seven have experienced a loss of over $600 billion in market capitalization. Although this represents a mere 6% decline, their collective value still amounts to $10.8 trillion. Nevertheless, this is the first time this year that they have encountered multi-week losses, despite exceeding earnings expectations.
While the temporary halt in their rise might not be detrimental to the overall market, which has declined by over 4% in the same four-week period, there is a concern that a substantial portion of the group’s gains has come from expanding multiples. This means that their share prices have been outpacing earnings, resulting in a precarious level of valuation.
For instance, Tesla’s share price relative to its estimated earnings has tripled this year to an astounding 60 times, while Apple’s multiple has increased from 19 in January to 27. Only Amazon has maintained a steady multiple of 35. Even Nvidia, despite significant profit upgrades, now trades at a multiple of 33, up from 30 in January.
Nvidia’s performance this week serves as a cautionary example. Despite impressive figures announced by founder Jensen Huang, the stock failed to sustain an early record high and closed flat on the day.
“Traders react, but investors consider,” explains Steve Sosnick, chief strategist at Interactive Brokers. “Investors decided against chasing an already highly-valued stock even after initially buying the rumor and subsequently buying the news.”
Other companies have witnessed similar trends. Although Apple’s figures surpassed forecasts, the 5% decline in share prices on the day reflected disappointment regarding declining sales of iPhones, Macs, and iPads, which places additional pressure on the forthcoming lineup of new products in the autumn. Top-line sales have barely increased in two years.
Microsoft also faced a similar situation, with a nearly 4% decline following its earnings report last month, as its guidance failed to impress. These misses have a more significant impact when the stock is valued at 29 times expected earnings, compared to 22 times in January.
“With these multiples, consolidation is necessary. A few months won’t be enough; instead, six to twelve months of consolidation is required,” notes O’Rourke.
If not the overused notion of “the Magnificent Seven,” the market will need another catalyst. However, finding one may prove to be challenging. The recent earnings season has not sparked enthusiasm among investors. According to Barclays calculations, S&P 500 companies beat top-line revenue forecasts by 2% and bottom-line profit expectations by 7%. Nonetheless, those who exceeded expectations on both measures only saw a 1.2% increase, down from the average of 1.7%.
Analysts generally believe that the previous quarter marks the low point in the earnings cycle for the broader market, but the economic outlook remains uncertain at best. Recent data reveals soft orders for durable goods from US factories in July, and several retailers reported weak earnings. Nonetheless, some investors find solace in the tight labor market, as evidenced by American Airlines’ pilots securing a 21% instant pay rise and a decrease in weekly unemployment claims.
“Earnings need to hold up their end of the deal,” asserts Brent Schutte, chief investment officer at the Northwestern Mutual Wealth Management Company. “Most of the market’s progress this year has been driven by rising prices rather than growing earnings.”
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