One possible explanation for the recent divergence in stock market performance vis-à-vis the broader economy is the performance of the tech sector.
Microsoft, Apple, Amazon, Alphabet, and Facebook now comprise ~22% of the S&P 500 index. It’s no wonder that the stock market held up the way it has.
For companies above (perhaps with the exception of Apple), the Covid pandemic has been much more of a tailwind than a headwind.
E-commerce, gaming, streaming, cloud computing, and a broad-based acceleration of the shift from offline to online have pushed their revenues – and valuations – even further into the stratosphere.
We simply haven’t seen anything like this before… or have we?
Brave New Old World
It’s not intuitive, but we’ve been down this path before, and certainly much further along.
The below graph from Bianco Research shows the largest company in the S&P 500 for the past 6 decades.
Source: Bianco Research
As it turns out, the stock market isn’t even that concentrated today.
Want to see what concentrated really is? Go back a few decades, when AT&T and IBM were literally dominating the index – with absolutely no end in sight.
It may be hard to believe, but the big 5 today still have a bit of work to do to reach those levels.
That being said, they’ve certainly got the wind in their sails.
Software continues to eat the world. Enterprise tech stacks are being re-engineered top to bottom.
Humans, long nothing but a pesky inconvenience in the corporate cost structure, are being replaced by technology at an ever-accelerating rate. Who wants to deal with pay increases, holidays, and all the HR admin?
And in the background, new paradigms, from AI to quantum computing to genomics are reshaping the world as we speak.
In other words, do you really want to bet against tech? And if you cannot beat them, why not join them?
Throw your money behind the very companies that probably leave you unemployed ten years from now. Double down on tech, hoping that your investment income will keep you afloat by the time robots work you out of a job.
And if you are already holding a tech ETF which has been knocking the lights out, can you really make a case for selling it off in favour of a broad-based tracker?
The old guard never had a chance.
Over the past two decades, numerous industry incumbents have been thrown off the pedestal by smart, creative, hard-working entrepreneurs who actually understood technology.
It was the equivalent of the typewriter industry computing against PCs back in the 1980s. “Digitizing” your business by producing an electric typewriter simply prolongs the agony.
Trying to fit technology into an existing business model will never match a business model with technology at its heart.
But let me ask you this – is Amazon a tech stock? Or is it a broadly diversified industrial and logistics conglomerate, albeit one with a meaningful cloud and advertising business?
Are Netflix and Spotify tech stocks? Or are they simply content creation and distribution powerhouses?
And for all intents and purposes, a company that shuttles people around operates in the transportation industry.
The traditional definition of technology is hardware, software, and people that make the two work. But that doesn’t make anyone with a website and a data center a tech company.
Granted, both private and public markets have been slow to get the memo. That being said, they are finally waking up to the fact that often, the contents of the tin don’t match the label.
The Next Episode
It didn’t seem that way in the 60s and 70s, but IBM and AT&T were destined to cede their dominance.
At some point, managing vast enterprises becomes a real challenge. Growth tails off – with a knock-on effect on valuations.
Visionary leaders step down and hungry upstarts nip at your heels – and that’s before you consider the ever-present threat of regulatory intervention.
It’s happened before, and it will definitely happen again.
Most importantly, technology alone is no longer sufficient to build the next industry giant. Now that it’s the foundation of every successful business, you need to go back to basics to outperform the competition.
Product innovation and design. User experience. Full automation. A step change in quality and cost.
Technology companies don’t have a monopoly on any of these things. And that is why the next generation of leaders might well spring up outside the sector. Whether it’s healthcare, transportation, manufacturing, or (gasp!) finance – everyone has a shot.
Doubling down on tech is incredibly appealing right now. But in doing so, you may well be missing out on tomorrow’s leaders.
About Banker On Fire
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Banker On FIRE is an M&A (mergers and acquisitions) investment banker. I am passionate about capital markets, behavioural economics, financial independence, and living the best life possible.
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