I’ve got a whacky and unpopular theory, hear me out …
The largest group of tech stocks have soared past many market cap milestones recently. If only I’d had £1 for every time I’ve read that Apple exceeded the market cap of the FTSE 100 (eye catching, but so what?) and more recently that this elite group has exceeded the size of the largest 7 European exchanges combined .
But I think the FANMAG stocks are still under-owned …
How could I possibly say this? Two reasons.
- The vast majority of institutional managers that I see can’t resist having a value tilt in their process that puts them underweight or don’t even own FANMAG at all. It’s endemic , and now many are backed into a corner constantly arguing against tech.
Sure, some active managers have called the tech boom but for every one that is overwight I reckon there are 10 that aren’t, it’s completely assymetric.
As an aside , there’s actually a funny – and potentially dangerous – kind of groupthink here in my opinon whereby most “smart” managers just can’t bear the idea of making money in stocks with a PE over 30, it just doesn’t compute ( but think *they* are the contrarian in saying that!)
Anyway, the GICS sector re- classification in 2018 which pitched Amazon into Consumder Discretionary and Facebook, Google into Communications MASSIVELY exacerbated this as those value tilting managers that try to be sector-neutral could then get underweight that whole group across multiple sectors, rather than having to like at least some of them, when they were all lumped together in the Technology sector. I think this was a pretty profound event and is very under-discussed, but most managers don’t really want to talk about it as it more or less breaks the backtests they depend on …
2. Some managers’ portfolio construction rules actually hold them back in terms of allocation. For example, some managers I know limit individual stocks to 2% of overall portfolio, some set a maximum of 25% allocation to securities with more than a 5% alloction, and the 75-5-10 rule for mutual funds limits individual positions to 5%. All of these constraints act to supress on the margins the demand (or make very asymmetric potential exposures) for these largest stocks with Apple at 4.5% of the MSCI World, and 7% of the S&P 500.
This situation could of course simply continue indefinitely. But I see at least 4 ways it could resolve in a way that creates additional demand pressure for these stocks.
- Those value tilting managers getting sacked & moved to passive (or a manager without the underweight)
- The manager getting pressured / capitulating on their underweights and buying some or even just squaring their position
- Value investors altering their process to do things like incorporate intangibles into book value. Research Affiliates have shown that while this won’t suddenly cause value managers to love Amazon, it might make it less of an underweight.
- Big tech firms being broken up in a way that actually creates sub-units that look more attractive on fundamendal metrics (eg cloud or search say, are fantastically cash-generative businesses that may look quite different from a fundamental perspective on a standalone)
Told you it was a whacky theory.
It’s easy for me to criticise of course when I don’t manage money – and for sure there are good genuine reasons to be underweight many of these stocks , I’m not trying to say everyone should be long, but I have seen this too often not to connect dots.