This content is supplied by Overberg Asset Management
*By Nick Downing, CEO , Overberg Asset Management
The US equity benchmark, the S&P 500 index is up by 13% year-to-date and up over 20% since its low point in October last year. A 20% move qualifies as a “bull” market confounding the sceptics at the start of the year with their prophecies of recession and doom. However, the upward move has been driven by a remarkably limited number of shares. According to US investment bank Goldman Sachs, the current stock market rally has been the narrowest since the dot.com bubble of 2000.
The S&P 500 index is a capitalisation or value-weighted index, which means each company’s weight in the index is proportional to the market value of its shares. The index comprises 500 companies. The companies with the largest market capitalisations, or the greatest values, will have the highest weights in the index. The rally in the S&P 500 index has been driven by the seven largest shares in the index, which combined make up an outsized 28% of its value. They are all technology driven shares, including Apple, Microsoft, Amazon, Alphabet, Tesla, Meta Platforms, and Nvidia, the latest technology company to break the $1 trillion market capitalisation barrier.
In 2003, the S&P 500 Equal Weighted Index (EWI) was created, an equal weighted version of the index. Although both indices comprise the same 500 shares, they have different weighting schemes. In the EWI, every share in the index has the same weight regardless of how large or how small the company. Therefore, Apple the largest constituent of the S&P 500, comprising 7.56% of the index would have the same weight as the smallest company. While the S&P 500 index is up 13% year-to-date, the equal weight index has barely budged. The S&P 500 index would be down if one excluded the seven technology giants. Globally, over half the constituents of the MSCI World Index are down YTD. Technology is leading the way, buoyed by surging interest in artificial intelligence (AI).
Is it too late to jump on the artificial intelligence bandwagon? Many analysts caution that valuations have run ahead of themselves, citing the dangers of previous equity market bubbles. Bubbles inevitably end badly, but they can persist for long periods, especially in a field as transformational as generative AI. This bubble could still be in its infancy, considering that media hype around generative AI only began in January when Microsoft announced its investment in ChatGPT. Goldman Sachs research concludes that AI could lead to a labour productivity boom similar to previous transformative technologies like the electric motor and personal computer. Productivity growth in the G7 economies has slowed since the turn of the century to an average annual rate of 0.8% compared with 1.8% in the 1980-2000 period. Goldman Sachs believes that generative AI could raise US productivity by a substantial 1.5% per annum.
Jen-Hsun Huang, the founder of Nvidia, which designs the advanced Graphics Processing Unit (GPU) chips that power artificial intelligence applications, said “we have reached the tipping point of a new computing era”, in which “everyone is a programmer.” Scottish Mortgage Investment Trust, a key holding in Overberg Asset Management’s global private client portfolios, added Nvidia to its portfolio in July 2016, when the share traded below $10.00. It has since risen above $400 per share, up an astonishing 180% YTD and trading at an eye-popping price-earnings multiple of 123x. Yet Scottish Mortgage are holding on to the share, as it believes “Nvidia’s opportunity in AI is still just beginning. Its capabilities underpin computational drug design, climate change simulation, speech recognition, automotive control systems, industrial automation, computer vision and much more… The markets it addresses are inestimably large, and Nvidia is developing a systemically crucial role.”
It is not too late to add portfolio exposure to AI. Some of the doyens of the investment industry share this view. Pershing Square Holdings, the £5 billion investment company, only recently added its sizeable stake in Alphabet at a 9% portfolio weighting. Overberg Asset Management’s global private client portfolios have exposure to AI via various holdings, most notably through Pershing Square Holdings Ltd, Scottish Mortgage Investment Trust plc, Rothschild Capital Partners plc and JPMorgan American Investment Trust plc. However, we believe that additional exposure is merited, via Allianz Technology Trust plc.
Allianz Technology Trust PLC (ATT) has a long and successful track record of investing in quoted technology companies on a worldwide basis. ATT has the competencies to sift through the winners and losers of the AI transformation. It has won several awards, including winner of the Association of Investment Companies (AIC) specialist category in 2021, and winner of the AIC shareholder communication award in 2022. It also has a 5-star Morningstar rating, the highest rating available. ATT is managed by Voya Investment Management, which is based in Silicon Valley where many of the world’s key technology companies are headquartered. The share price fell sharply in 2022 by 40.4% as technology companies, which tend to be valued by discounting earnings many years into the future, were especially susceptible to rapidly rising interest rates but the peak in central bank interest rate hikes is now in sight. While the share price has already gained by 23.4% since the start of the year, it is still a long way from recouping last year’s losses and still trades at a compelling 12% discount to net asset value.
AI is likely to be a transformative technology and likely to continue generating investor interest for a considerable period, certainly longer than it has done so far. Independent research company Capital Economics wrote on 16th June 2023, that “it will help to propel the stock market to a much higher level in 2024, aided by economic recovery and looser monetary policy… We wouldn’t rule out a bubble surrounding AI to inflate well beyond the end of next year.” While there are concerns over market valuations generally and the potential for a recession related global equity market sell-off, history shows that mega-cap outperformance, such as we have been experiencing, tends to continue even during an equity market sell-off. In addition, therefore, ATT should also bolster the defensiveness of client portfolios during these relatively uncertain times.
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• All writers’ opinions are their own and do not constitute investment recommendations or financial advice. Speaking to a qualified wealth and investment professional is crucial before making financial decisions.
• ‘Overberg Asset Management (Pty) Ltd. is an authorised financial services provider: 783’ established in 2001.
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