The market has $11 trillion worth of ‘Magnificent 7’ questions. Bank of America has the answers.

But can the equity market reach fresh highs without the continued support of the mega technology stocks that have provided so much of the gains in recent months, and how should investors therefore navigate the challenges of such record concentration risk?

That’s the $11 trillion conundrum, says Savita Subramanian, strategist at Bank of America.

The Magnificent 7 stocks ( Apple
AAPL,
-0.31%,
Alphabet
GOOG,
+0.35%,
Amazon
AMZN,
+1.01%,
Meta
META,
-0.34%,
Microsoft
MSFT,
+1.47%,
Nvidia
NVDA,
+2.39%,
and Tesla
TSLA,
+1.87%
) which are valued around the $11 trillion mark, have contributed 73% of the S&P 500 gains in the first half of 2023, Subramanian notes.

To gauge how to play this from now, investors need to consider five questions, addressing how we got here and thus what may happen next.

First, what caused this market concentration? “Ultra-low rates and a lackluster economy in the 2010s created the perfect petri dish for idiosyncratic, secular growth and disruptive themes to flourish,” says Subramanian.

This combined with, among other things, market-cap weighted index inflows favoring the bigger companies, and pandemic-driven tech adoption boosting cloud and ecommerce demand. Fiscal support has helped the Mag 7 grow too, while AI has provided a fresh boost of late.

Next, has this happened before, and how did it end? Top heavy markets, containing perceived irrational exuberance are nothing new. says Subramanian. The trick is identifying the winners among the dross.

“Bubbles fueled by excessive leverage, democratization of markets and rampant speculation tend to end badly. But real disruptors can do well. The 2000 Tech Bubble saw consolidation and relative losses for about a decade, but 1 in 5 IPOS of the late 1990s survived and are today’s blue chips.”

So the next important question is therefore: Is today’s Big Tech different from prior bubbles’? Simply, yes. Bigger might be better today versus say the situation in 2000, reckons Subramanian.

“Bigger companies can afford and welcome regulation, given the moat it creates, [while] Big Tech has $200 billion net cash versus SMID Tech has net debt. For AI, scale matters: our analysts ranking for AI skews in favor of big companies (bigger datasets, more subs).”

OK, so the situation isn’t as dangerous as it was in 2000, But what are the important catalysts to watch for? There are five.

• Saturation in ownership. As the chart above shows, long-only funds already have positions in the Mag 7. “The more overweight the stock, the more acute is the selling pressure around negative surprises,” says Subramanian.

• Changing competitive landscape. Tech trends can shift quickly.

• Policy/politics. Big tech is increasingly in the cross-hairs of regulators.

• Rate risk. Higher real interest rates may hurt growth stocks who have benefited from a low cost of capital.

• Demand. The pull-forward in tech capex during COVID was similar to that ahead of Y2K, which was followed by sequential years of negative top line growth, Subramanian notes.

Finally, how can equity investors navigate these risks? Look beyond the Mag 7. “In our view, equity opportunities are likely to broaden beyond the seven stock cohort. Valuations are more attractive outside of these companies, and projected returns based on consensus are higher for the equal-weighted S&P 500,” says Subramanian.

“We would avoid crowded, expensive tech companies with ailing share gains. But tech companies with healthy balance sheets capturing and/or retaining market share leadership should be considered for a core holding,” she says.

Markets

U.S. stock-index futures
ES00,
+0.08%,

YM00,
+0.33%,

NQ00,
+0.47%,
are a touch firmer as benchmark Treasury yields
TMUBMUSD02Y,
4.738%,

TMUBMUSD10Y,
3.812%,

TMUBMUSD30Y,
3.923%
move higher. The dollar
DXY,
+0.08%
is holding recent lows, while oil prices
CL.1,
-1.46%
slip and gold
GC00,
-0.04%
softens.

Try your hand at the Barron’s crossword puzzle and sudoku games, now running daily along with a weekly digital jigsaw based on the week’s cover story. To see all puzzles, click here.

The buzz

Economic data due Friday include the import price index for June, published at 8: 30 a.m., and the preliminary reading of July Michigan consumer sentiment at 10 a.m.. Both times Eastern.

Results and forecasts from JPMorgan Chase
JPM,
+0.23%,
Citigroup
C,
-2.72%
and Wells Fargo
WFC,
+0.46%
are among the highlights as the U.S. second-quarter earnings gets into swing. So far there has been a positive reaction with shares moving higher.

Shares of Chinese cybersecurity companies such as Zhongfu Information Inc. 300659, 19.98% were sharply higher on Friday, boosted by Beijing’s latest artificial-intelligence regulations that emphasized cybersecurity and data safety.

European telecommunication equipment groups are not having a good day. Shares in Finland-listed Nokia
NOKIA,
-9.40%
are off nearly 10% and its Swedish peer Ericsson
ERIC.B,
-10.64%
is stumbling more than 8% after both companies’ results and guidance were not well-received.

St. Louis Federal Reserve President James Bullard announced Thursday that he has stepped down from his position at the regional Fed bank and will formally leave next month to become the first dean of the new business school at Purdue University in Indiana.

The Reserve Bank of Australia has appointed its first female Governor. Michele Bullock is promoted from Deputy Governor and will serve a seven year term.

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The chart

Here’s Vanda Research on how retail investors are looking to be nimble in the face of putative market catalysts: “Retail investors significantly de-risked Tuesday afternoon but chased the rally aggressively Wednesday morning following the surprise CPI miss. Given retail’s predominant contrarian bias, we view this as a sign of FOMO and that we’ll probably see robust inflows over the coming days if equity markets maintain their uptrend.”

Top tickers

Here were the most active stock-market tickers on MarketWatch as of 6 a.m. Eastern.

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