What Happens When the Parts Are Bigger than the Whole?

“There are limits to size and growth”

-Geoffrey West

The S&P 500 has had annualized revenue growth of 3.5% over the last decade. I heard this from Chris Bloomstran during a conversation with Patrick O’Shaughnessy. They were talking about this in the context of why tech can’t continue to grow at the breakneck pace that we’ve  grown accustomed to.

Facebook, Amazon, Apple, Microsoft and Google, which I will refer to as FAAMG, have grown their revenue at 15% a year since 2012, and are now the 5 largest stocks in the S&P 500. If this growth rate were to continue, in 19 years these five companies would be responsible for half of the revenue in the index. 7 years later they would have more revenue than the index itself.

Since 2014*, the market cap of the S&P 500 grew at an annualized rate of 7.7%. Over the same time, the market cap of the FAAMG stocks grew at 21.6%, and now represent roughly one-fifth of the index. If these growth rates were to continue, in 7 years these 5 stocks would represent half of the index in terms of market capitalization. 6 years later, they would represent the whole thing. For reasons that are very obvious, this cannot happen.

The biggest stocks have been getting bigger for the last decade, and the COVID-19 induced recession is widening that gap further still. The FAAMG companies all recently reported earnings, and for the most part, things are much better at the top than they are everywhere else.

Eventually, this growth is going to be a headwind, not just because it’s harder to grow from a base of 100 than from a base of 10, but because sooner or later, Uncle Sam will come knocking.

How long before Amazon is forced to spin out AWS? How long before Facebook and Instagram have a forced separation? I’m not predicting this does happen, I’m only pointing out that if these growth rates were to continue, then it will happen.

Betting against this  winner-take-all trend has been a losing proposition, but an iron law of pizza is that the slices of the pie cannot be bigger than the pie itself. An iron law in investing is that five stocks cannot be bigger than an index with 495 other constituents.

*I used this as a start date because that’s around the time Facebook got added to the S&P 500. Also worth noting that the data I have uses the market cap of each S&P 500 company today going back in time. Not every company today was in the S&P 500 in 2015, and some companies that left are no longer being reflected. All that said, these numbers should be very close, even if they’re not precise.

This content, which contains security-related opinions and/or information, is provided for informational purposes only and should not be relied upon in any manner as professional advice, or an endorsement of any practices, products or services. There can be no guarantees or assurances that the views expressed here will be applicable for any particular facts or circumstances, and should not be relied upon in any manner. You should consult your own advisers as to legal, business, tax, and other related matters concerning any investment.

The commentary in this “post” (including any related blog, podcasts, videos, and social media) reflects the personal opinions, viewpoints, and analyses of the Ritholtz Wealth Management employees providing such comments, and should not be regarded the views of Ritholtz Wealth Management LLC. or its respective affiliates or as a description of advisory services provided by Ritholtz Wealth Management or performance returns of any Ritholtz Wealth Management Investments client.

References to any securities or digital assets, or performance data, are for illustrative purposes only and do not constitute an investment recommendation or offer to provide investment advisory services. Charts and graphs provided within are for informational purposes solely and should not be relied upon when making any investment decision. Past performance is not indicative of future results. The content speaks only as of the date indicated. Any projections, estimates, forecasts, targets, prospects, and/or opinions expressed in these materials are subject to change without notice and may differ or be contrary to opinions expressed by others.

The Compound Media, Inc., an affiliate of Ritholtz Wealth Management, receives payment from various entities for advertisements in affiliated podcasts, blogs and emails. Inclusion of such advertisements does not constitute or imply endorsement, sponsorship or recommendation thereof, or any affiliation therewith, by the Content Creator or by Ritholtz Wealth Management or any of its employees. Investments in securities involve the risk of loss. For additional advertisement disclaimers see here: https://www.ritholtzwealth.com/advertising-disclaimers

Please see disclosures here.