A third volatile week in the Nasdaq 100 is striking fear into retail investors accustomed to riding tech stocks straight up. For mutual funds competing with benchmarks top-heavy with Apple Inc. and Amazon.com Inc., it’s a dose of turbulence they can live with.
The biggest of the big have borne the brunt of the latest break in a rally that previously added $15 trillion to market values. For the most part, that’s OK with active managers, who have struggled to own enough megacap FAAMG shares to keep up with stock gauges. Prospects they will try to play catch-up, scooping up stocks on dips, are emerging as a bull case for the rest of 2020.
To see why the stretch is welcome news for stock-pickers, consider how benchmarks that give every member the same clout have performed recently. An equal-weight version of the S&P 500, where megacap hegemony is reduced, rose 0.7% this week, compared with the classic market-cap weighted S&P 500, which ended the week down 0.6%. While the Nasdaq 100 was dropping 1.4%, a version stripped of market value biases climbed 0.4%.
That’s the opposite of what happened in August, when the cap-weighted Nasdaq’s 11% return was more than twice the equal-weight’s. In that month, less than a third of large-cap active managers beat their benchmarks, with the average fund lagging by the widest margin since June 2016, according to Bank of America. Growth funds were among the worst-performing partly due to their “massive” underweight in Apple, which drove one-quarter of some indexes’ gains that month.
“What has driven the success versus failure this year has to be allocations to the Fang stocks,” said Phil Camporeale, managing director of multi-asset solutions for JPMorgan Asset Management. “If you’ve had 1% or 2%, that’s made a huge difference because some of these names are up 50-70%. It’s very painful to not have those as part of your portfolio, even in multi-asset.”
It’s not that fund managers don’t own the right stocks. Their favorite picks have done remarkably well in 2020 by historical standards. But the big-five’s dominance has been so overwhelming that not even that could spare them from a particularly futile year on a relative basis. While FAAMG members are up 33% on average this year, the rest of the S&P 500 is still down 7%.
Among some 200 equity funds that are benchmarked to the S&P 500 and have at least $500 million in assets, those heavily tilted to FAAMG have greatly outperformed. Funds with at least one fifth of their portfolios earmarked to the big five have returned almost 10% on average this year, compared with a loss of 2.7% for those where the group make up less than one-tenth of assets.
Partly as a result, money managers are using the dip to add positions in internet and software companies. Last week, when Apple fell the most since March while shares of Facebook Inc., Amazon.com and Alphabet Inc. suffered their biggest losses since June, Goldman Sachs Group Inc.’s hedge fund clientswere busy snapping up the shares. The big five, which also includes Microsoft Corp., accounted for almost a quarter of the total buying of single stocks that Goldman’s prime-brokerage unit executed during the week.
“There’s so many portfolios that never caught up with the ferociousness of the rally that we’ve had this year off the bear-market lows and have been waiting for an opportunity to maybe, if nothing else, just reduce their bearish bets a little by adding a little bit of their cash back into the market,” Jim Paulsen, chief investment strategist at Leuthold Group, said in a Bloomberg Television interview.
Fund managers broadly have boosted their tech exposure. Relative to February, when the bear market started, the proportion of managers holding an overweight position has increased by 3 percentage points, data compiled by BofA showed. Right now, roughly 60% of the funds tracked by the firm favored tech, making it the most popular industry.
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“Within the equity market, the only game in town has been the FAAMG stocks,” said Marc Odo, client portfolio manager at Swan Global Investments. “I don’t think people are necessarily investing in these companies because they love them but because they are out of options.”
The risk of excessive enthusiasm abounds. Nasdaq 100 valuations have expanded to the highest since 2004. In BofA’s latest survey of fund managers, long tech is considered the most crowded trade on record, and a bursting in the tech bubble is cited as the second-biggest tail risk, right behind Covid-related fears.
For many managers, risks like those are too high to bear. Nancy Tengler, chief investment strategist at Tengler Wealth Management, says she’s been paring back the firm’s exposure to stocks like Apple while adding to names that she thinks have more attractive valuations, such as Target Corp. and Starbucks Corp. Still, she remains overweight technology.
“But not growth at any price technology, growth at a reasonable price technology,” she said. “They used to say you want to vacation in growth and live in value. I think it’s probably the opposite now.”
— With assistance by Claire Ballentine
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