Coronation warns South African investors about Magnificent 7

Investors’ fixation on the Magnificent 7 stocks is distracting them from other compelling investment opportunities and threatening the performance of their portfolios. 

The Magnificent 7 group of companies—Apple, Microsoft, Google, Nvidia, Meta, Amazon, and Tesla—have seen their market values skyrocket in recent years and have driven the outperformance of US indices. 

While the US market continues to dominate global investment opportunities, the rise of the Magnificent 7 exemplified the narrowness of stock market returns, Chris Cheetham and Neil Padoa of Coronation said. 

An equal-weighted index of these seven shares has returned an annualised 47% over the last five years, roughly triple the S&P 500’s 16%. 

To put this into perspective, $1 million invested in the Magnificent 7 five years ago would now be worth $6.8 million, compared to $2.1 million if invested in the S&P 500.

More recently, returns in this group have been amplified by the excitement around artificial intelligence and its potential applications, with the market handsomely rewarding early winners.

However, investors must be cautious when investing in this group of companies as there have been massive differences in performance between individual companies in recent years. 

This is seen in the fundamental performance of these businesses, with a stark divergence in revenue growth, margin profile and earnings multiple within this group of companies.

The table below shows the divergence in these companies’ fundamental performance, while the graph below shows the significant variance in their share price performance. 

During this period, Coronation held positions in Meta, Alphabet (Google), and Amazon while avoiding investing in Apple and Tesla. 

For Cheetham and Padoa, the presence of clear winners and losers over various time periods highlights the importance of stock picking. 

Coronation continues to hold sizeable positions in Meta, Alphabet, and Amazon as it believes the market is still under-valuing the growth potential of these AI beneficiaries. 

Furthermore, the market’s fixation on the Magnificent Seven, while ignoring dispersion within the group, diverts attention from a rich opportunity set of companies, they said. 

Some of these companies share characteristics of the Magnificent 7, including the ability to sustain above-average revenue growth while compounding returns on capital at an elevated rate. 

Other factors are also shared, such as strong moats and sustainable competitive advantages leading to attractive rates of real earnings growth over the longer term. 

However, they are not nearly as well-known and trade on attractive earnings multiples. As bottom-up investors, we tend not to focus too much on groups of stocks or broad themes. 

However, the same cannot be said of Mr Market, and this provides a rich opportunity for those with a longer-term horizon who are willing to work on individual names.  

Cheetham and Padoa said active investors who are willing to do the fundamental research work on individual names would find a myriad of opportunities outside of the Magnificent 7.