Safe Stocks are riskier than you think

📆This Week’s Topic

This week, we’ll be talking about the risks that are now coming with stocks and funds that were thought the be safe in the past. Big companies such as Nvidia and Apple are pushing higher returns, and other tech giants of the sort have risen in value so much that within index funds their shares are now significantly bigger than the rest of the fund, and the same goes for the US market in general.

💳 Cause & Effect

The main factor of this the growth of tech companies. But how have the “Magnificent 7” risen so much in value? Part of it is the AI bubble that we’ve talked about previously, and the large investments surrounding that. But a bad part of this domination of the market is that the stock index funds that track and give overviews of groups of stocks are no longer diversified, and are dominated by big tech companies such as Apple, Microsoft, and Nvidia powered by the AI bubble.

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📊 Statistics

If you wanted to invest in multiple companies to diversify your investments, you could invest in the US stock index, which would buy shares in a variety of companies so as to protect your funds. However, since the index is so heavily influenced by the large tech companies, the index is less of a representation of all the stocks in the index, and just the big tech stocks.

🔚 Outcome

This means that there is a danger to having your shares concentrated in a few large companies. If they do poorly, so do you, but if the stocks continue to rise, you’ll make gains. The problem is that within the S&P 500, Apple, Nvidia, Alphabet, and Microsoft make up over 25% of it’s value. And it’s not just the S&P 500 which has non-diversified. Fidelity 500 and Fidelity Total Market, two other large index funds, had changed their legal structure so as to operate as non-diversified funds.

⛱ Consumer Effect

The US stock market has become so overpowered by the largest companies that not only are many other index funds such as the ones handled by Vanguard, BlackRock, and State Street changed their legal wording, but the overall market is on the brink of passing the legal boundary for being diverse. By using any of these index funds such a as the S&P 500 or Fidelity Total Market to explain the entire US stock market, they all point to non-diversification. However, consumers are relatively fine, because in a market analysis by the Vanguard Investment Advisory Research Center, it showed that from 1925, a few companies made up 25% of the market. But because of the recurring good returns during top-heavy market decades, investing into index funds is still a good way to have a diverse portfolio.

🏢Business Effect

For the companies managing these indexes, their non-diversified funds can suffer disproportionately if one of the bigger stocks does poorly, a few stocks do bad, or even if a single smaller stock doesn’t do well. However, the problem might solve itself if the AI bubble pops and the big tech companies lower faster than smaller companies. However when that happens, any non-diversified stocks will do poorly.

⏳ Final Summary

While the market is definitely top heavy and index funds are not legally diverse, investing in these low-cost funds is still the way to go, and consumers should not suffer, because history shows a pattern of great returns in top-heavy market years.

🙏Thank You & Important Information

As always, thank you so much for reading this edition of Friday Finance. We hope you enjoyed this article, and consider subscribing for weekly news that covers everything you need to know about finance.

Best,

Grayson Stein and Jacob Gans