The Magnificent 7: Tech titans propel S&P 500 to record highs

In a dynamic market where the S&P 500 has soared to record highs, driven by a 38% surge since October 2022, the Magnificent 7 tech giants, including Alphabet, Amazon, Apple, Meta Platforms, Microsoft, Nvidia, and Tesla, now hold a substantial 29% of the index's market cap. While concerns arise about stretched valuations, their influence on the market is undeniable. The Magnificent 7's growth potential and dominance in AI technology position them to exceed expectations, sustaining the market's momentum despite macroeconomic uncertainties and geopolitical risks..Sign up for your early morning brew of the BizNews Insider to keep you up to speed with the content that matters. The newsletter will land in your inbox at 5:30am weekdays. Register here..By Jonathan Levin.The S&P 500 Index hit an all-time high on Friday, punctuating its 38% return from the trough in October 2022. Much of the exciting rally has reflected an expansion of forward price-earnings ratios, and there's a broad sense that management needs to start putting up the profits to justify current valuations. I suspect that corporations — and seven in particular — are up to the challenge..___STEADY_PAYWALL___.The run-up in valuations over the past few months has been driven by a decline in government bond yields, which — among other things — boosts the relative attractiveness of equities in the eyes of investors. That tailwind has faded with markets having front-run the Federal Reserve's expected policy rate cuts this year..Longer-term, there's something deeper going on: The Magnificent 7 growth stocks — which have always commanded much higher multiples than the typical S&P 500 company — have been accumulating greater and greater weighting on the index. The septet of Alphabet Inc., Amazon.com Inc., Apple Inc., Meta Platforms Inc., Microsoft Corp., Nvidia Corp. and Tesla Inc. now account for about 29% of the S&P 500 by market cap (vs. 17% in 2019 and 14% in 2017), explaining a lot of the valuation drift to close to 20 times forward earnings from a 2017-2019 average of about 17..Looked at a different way, the market is far less stretched. The forward P/E multiple for the equal-weighted S&P 500 is still close to its pre-pandemic average at about 16. Meanwhile, the forward P/E multiple for the Magnificent 7, at about 28, is only a hair above pre-pandemic norms, with investors willing to pay up for their history of long-term growth and market power. .If the weighting of these companies continues to grow (because they continue to out-earn the index), then the valuation expansion could have further room to run. Still, the market is likely to pause here and demand some deliverables. More than previous years, the onus is on companies to beat full-year index-level earnings expectations — something that's relatively unusual outside of the stunning full-year earnings "beat" in 2021..Fortunately, growth surprises happen to be an area of expertise for this particular cohort of companies, and nobody's saying that they can't do it again. While market pricing often represents average expectations around earnings, Magnificent 7 companies tend to grow so fast that their earnings are hard to predict, and there's wide dispersion around the mean expectation. As such, the Magnificent 7's growing influence may brings more surprises. .So how could they positively surprise us this time? .Many of the Magnificent 7's customers find themselves in an artificial intelligence arms race, and they'll be reluctant to let themselves fall behind, which could mean upside for Microsoft, Nvidia, Alphabet and Amazon. As my Bloomberg Intelligence colleagues Anurag Rana and Andrew Girard have pointed out, Microsoft's relationship with ChatGPT developer OpenAI may be a selling point for its Azure cloud computing services. Amazon's Amazon Web Services and Google Cloud hope to get a piece of the cloud-AI boom as well. And Nvidia will continue to benefit from the perception that its chips offer the best backbone for the developing technology — the proverbial "picks and shovels" that the industry can't get enough of right now. .Read more: 🔒 Top tech CEOs gather at Palantir's Davos talk on Israel attacks.The outlook isn't only about the Magnificent 7. The combination of falling interest rates, real earnings growth and rebounding consumer confidence seem to bode well for US growth overall. A report Friday from the University of Michigan showed that its consumer sentiment index posted the biggest monthly advance since 2005, surpassing all estimates in a Bloomberg survey of economists. If that sort of thing continues, it will help Amazon's retail business, Tesla's cars as well as apparel firms Lululemon Athletica Inc. and Nike Inc. and a slew of other S&P 500 members. The weight-loss drug frenzy could help fuel a rebound in health-care profits..Companies are also in the midst of another round of targeted layoffs, which will help margins as long as it doesn't snowball into a broader uptick in unemployment. So far, there's little evidence that it will. Needless to say, the macro economy will also have to stay on track despite geopolitical risks and a teetering Chinese growth story. .Last year, strong Magnificent 7 earnings growth came against a backdrop of falling profits for the rest of the index, and other industries will have to pick up the slack in 2024. Net income for the Magnificent 7 is projected to grow another 19% this year, but the rest of the index is expected to post growth of about 9%, which would be a bit better than middling for the group..All told, the US equity benchmark probably isn't quite as pricy as it's sometimes made out to be; it's just shapeshifting. Still, it's incumbent upon companies to surprise us with better-than-expected earnings overall, a result that probably can't play out without the leadership of the Magnificent 7. Fortunately, recent history shows that they're experts at delivering growth surprises, and — as long as that remains the case — investors will happily pay a premium for each dollar of their coveted earnings..Read also:.🔒 Apple's China dilemma: Geopolitical strains and Huawei's surge threaten tech giant's dominance🔒 Big Tech's dominance in AI sparks regulatory scrutiny as startups lean on giants for lifelinesFFM podcast ep17: Chasing pack; Truworths standout; lagging resources; slowing inflation.© 2024 Bloomberg L.P.

The Magnificent 7: Tech titans propel S&P 500 to record highs

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