Here's why the Magnificent 7 tech stocks will continue to outperform the S&P 493 in 2024, according to Goldman Sachs

An illustration picture taken in London on December 18, 2020 shows the logos of Google, Apple, Facebook, Amazon and Microsoft displayed on a mobile phone with an EU flag displayed in the background.

Google, Apple, Facebook, Amazon, and Microsoft logos displayed in front of an EU flag.JUSTIN TALLIS/AFP via Getty Images

  • Mega-cap tech stocks have driven the bulk of the stock market’s gains in 2023, and they’ll probably do the same in 2024.

  • Goldman Sachs said it expects the top seven stocks in the S&P 500 to outperform the bottom 493 stocks next year.

  • Faster growth rates and reasonable valuations bode well for mega-cap tech stocks, Goldman said.

The “Magnificent Seven” tech stocks have vastly outperformed the broader stock market this year, and Goldman Sachs expects the trend to continue well into 2024.

“Our baseline forecast suggests that in 2024 the mega-cap tech stocks will continue to outperform the remainder of the S&P 500,” Goldman Sachs’ David Kostin said in a recent note.

The “Magnificent Seven” mega-cap stocks, which refers to Apple, Amazon, Alphabet, Meta, Microsoft, Tesla, and Nvidia, are responsible for 76% of the S&P 500’s 2023 gain of nearly 20%.

Nvidia is up more than 200% year-to-date, and even Apple, the world’s largest company, saw its stock price surge nearly 50% this year. The seven companies represent a collective $11.5 trillion in market value.

The extreme concentration of the stock market rally this year has kept bearish investors on high alert, but Goldman Sachs isn’t concerned and expects the gains to continue. Here’s why.

1. The fundamentals are better

The seven mega-cap tech stocks have more attractive fundamentals when compared to the S&P 500’s bottom 493 stocks.

They sport faster growth, higher profit margins, cleaner balance sheets, and reasonable valuations on a relative basis.

“Analyst estimates show the mega-cap tech companies growing sales at a CAGR of 11% through 2025 compared with just 3% for the rest of the S&P 500. The net margins of the Magnificent 7 are twice the margins of the rest of the index, and consensus expects this gap will persist through 2025,” Kostin said.

And while price-to-earnings valuations are elevated for the tech stocks, when accounting for growth, they’re actually in line with the rest of the market.

“On an earnings-weighted basis, the Magnificent 7 long-term expected EPS growth is 8 percentage points faster than the median S&P 500 stock (+17% vs. +9%). On a PEG ratio basis, the relative valuations are in line with the 10-year average,” Kostin said.

2. Mega-cap tech stocks crashed in 2022

The sharp outperformance in the mega-cap tech stocks this year comes after a brutal 2022 in which a number of the stocks were severely punished by investors. From their peak, Meta fell more than 70%, Nvid dropped more than 60%, and Amazon’s share price was cut in half in 2022.

So the sharp trend reversal in performance this year was rather ordinary to Kostin.

“The dominance of mega-cap tech in 2023 largely reflected a reversal of meaningful underperformance in 2022,” Kostin said, adding that the group of tech stocks fell a collective 39% last year.

3. There’s no return relationship for top seven S&P 500 stocks

The 30 percentage point outperformance of the seven mega-cap tech stocks this year relative to the bottom 493 stocks of the S&P 500 is the second largest annual difference since 1970, according to Kostin.

But a historical analysis shows there is no relationship between the trailing and forward returns of the top seven stocks relative to the 493 other stocks.

“While the magnitude of outperformance has been striking, there has been no reliable historical relationship between the trailing and forward 12-month outperformance of the largest seven S&P 500 constituents vs. the remainder of the index,” Kostin said.

For example, strong outperformance of the largest seven stocks in 1999 was followed by a dismal performance in 2000 for those same stocks, while the outperformance in 2020 was followed by another year of outperformance in 2021, Kostin explained.

Read the original article on Business Insider

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