Is the US stock market too hot to handle?
Laith Khalaf
- Invest with AJ Bell
Markets seem to approve of the election of Donald Trump as the 47th US President. The S&P 500 has hit a record high in the wake of the election result, crossing over the 6,000 mark for the first time. This latest bump comes on the back of an exceptional run for US stocks, which has put other regional markets firmly in the shade, including the UK’s own stock market.
The historic performance differential is dramatic. £10,000 invested in the US stock market 10 years ago would be worth £42,248 now, compared to £18,186 if invested in the UK stock market.
Looking further back, £10,000 invested in the US market 20 years ago would now be worth £106,445 compared to £39,293 if invested in the UK (according to Morningstar total return in GBP to 31 October 2024). Other major markets have done a bit better than the UK, but neither European nor Japanese indices can hold anything resembling a candle to the S&P 500.
| 10 year | 20 year | |
|---|---|---|
| S&P 500 (US) | 322.5 | 964.5 |
| TOPIX (Japan) | 132.7 | 271.1 |
| MSCI Europe Ex-UK | 118.9 | 352.3 |
| FTSE All-Share (UK) | 81.9 | 292.9 |
Source: Morningstar to 31 October 2024
It’s no wonder investors have been pulling out of UK funds and ploughing their money into US funds, and also into global funds which have a high exposure to the US, thereby posting exceptional performance too.
Since the beginning of 2015, retail investors have pumped £8.5 billion into US funds, £32.2 billion into global funds, and on the other side of the ledger have withdrawn £54.7 billion from UK funds, according to Investment Association data.
No guarantee that markets will continue to do well
The US stock market has been on a sustained and rewarding winning streak, but investors still need to be wary of chasing past performance.
Buying what’s gone up has been a winning strategy for a long time, but history tells us when market trends change, they can do so with a vengeance.
The US is home to some of the most profitable companies in the world, most notably in the technology sector, and despite their mammoth size, these firms are still churning out exceptional levels of growth.
The AI boom has added another leg to the bull market in US stocks, and though not everyone is a believer, enough investors have bought into the artificial intelligence story to propel share prices in the US technology sector even further into the stratosphere.
The expected growth trajectory of the Magnificent Seven (Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia, and Tesla) means lofty valuations are attached to the shares of these companies.
So far, the tech titans have delivered on their promise, leaving the doubters choking on their words of disapproval. But high valuations mean a considerable amount of good news about the future is already in the price, which presents a risk. Should big tech companies post disappointing earnings, the market could rapidly reprice to take account of a lower growth trajectory.
The US represents a large part of the global stock market
Investors in the US stock market also need to be mindful of the concentration risk that has built up as a result of the narrow market leadership of a few stocks.
Currently 73% of the MSCI World Index, one of the most widely used benchmarks of the global stock market, is invested in the US. That means the many global passive funds which track the MSCI World Index are increasingly becoming US tracker funds.
Almost three quarters of these funds will be invested in the US stock market, with 22% invested in the Magnificent Seven technology stocks.
If you buy a S&P 500 tracker fund, 31% will be invested in the Magnificent Seven. These are relatively high weightings to individual stocks, and the risk is amplified by the US tech titans sharing overlapping characteristics and investment cases.
It’s certainly not a good idea to ignore the US stock market entirely, as anyone who has sat on the sidelines over the last decade will tell you, provided they can stifle their howls of anguish for a moment. But it’s important to recognise that investing in the US isn’t a one-way bet, no matter how compelling a story is laid out by historic performance.
The high valuations attached to a small group of tech companies, combined with the high weighting these stocks in global and US indices should give investors some pause for thought.
As ever, it’s important to look under the bonnet of funds you hold to make sure you’re happy with the investment philosophy and the risks taken. That even applies to passive investors in US and global tracker funds, who may be shocked to learn much money they have invested in a small number of companies.
Disclaimer: These articles are for information purposes only and are not a personal recommendation or advice. Past performance is not a guide to future performance and some investments need to be held for the long term.
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