Looking beyond 'Big Tech' Looking beyond 'Big Tech' http://www.federatedinvestors.com/texPool/static/images/texpool/texpool-logo-amp.png http://www.federatedinvestors.com/texPool/daf\images\insights\article\silicon-valley-small.jpg August 26 2020 August 18 2020

Looking beyond 'Big Tech'

Emerging innovators, and not the behemoths, may point way to long-term growth.

Published August 18 2020

Over the past five years, performance in the large-cap growth space has been driven by five stocks—the often-mentioned FAAMGs—Facebook, Amazon, Apple, Microsoft and Google—and a long-favored sixth, Netflix. For each of these companies, it’s been a long, positive run. They all remain powerhouses—so far. But it’s important to note that never in history has such dominance been sustainable. 

These companies built success by being the first to market in many of their industries—in some cases creating new industries—and have become household names. But change and progress is inevitable. The largest tech companies seem to be impenetrable but inevitably they will be commoditized as they commoditized the companies they replaced. Just as these companies have saturated emerging industries, more competitors have entered these spaces. Facebook’s ownership of social media has been diluted by Snapchat, Twitter and YouTube. Another key factor: data has become commoditized, as well. Five years ago, whoever had the data owned the value. Today, what you do with the data increasingly is the primary means to add value. For example, software-as-service companies are becoming essential to virtually any company that needs data-mining expertise to understand customers’ preferences and spending habits in order to garner more revenue per customer.

As the markets recover, an earnings trajectory likely will broaden from a narrow few companies. Many investors will be encouraged by a weakening dollar, an accelerating economy and improving employment numbers. Historically, these are the conditions that have supported large-cap growth stocks. Nonetheless, many investors might not be aware of how much risk they may be taking by piling into the same five stocks that have held up so well during the downturn—the same stocks that index funds have piled into. Consider that as of the end of July, the FAAMGs accounted for 23% of the entire capitalization of the S&P 500, the highest concentration on record. That surpasses the 18% index concentration of early internet companies at the height of the dot.com bubble in 1999-2000. The FAAMGs represent a 30% weight in the large-cap Russell 1000 Index.

We don’t advocate abandoning the FAAMGs—and if you are an index investor, you won’t be able to in any case. Instead, we encourage growth-focused investors to follow Wayne Gretzky’s advice to skate where the puck is going, not where it is or has been. Based on our experience, the best opportunities in the next economic cycle will require investors to look ahead to not yet widely known technologies, services and innovations—in other words, the next FAAMGs—rather than dwell on winners from the last one.

Tags Equity . Active Management . Markets/Economy .

Views are as of the date above and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector.

Russell 2000® Index: Measures the performance of the 2,000 smallest companies in the Russell 3000 Index, which represents approximately 8% of the total market capitalization of the Russell 3000 Index. Investments cannot be made directly in an index.

S&P 500 Index: An unmanaged capitalization-weighted index of 500 stocks designated to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. Indexes are unmanaged and investments cannot be made in an index.

Stocks are subject to risks and fluctuate in value.

Federated Advisory Services Company