AI Driven Gains To Continue As Stock Market Concentration Persists

The US equity market has been on a roll in 2023, with the S&P 500 up by more than 13% and the Nasdaq up by more than 30%, only six months into the year. Amid the impressive rally, the gains have mostly been fueled by a small cluster of stocks, much to many investors’ concerns. The off concern is that the rally has mainly been concentrated on stocks with exposure to artificial intelligence technology.

Stock Gains Concentration

The fact that the stock rally rests precariously on just a few companies has been the bone of contention over whether it is sustainable. According to six years of research by Hendrik Bessembinder, there is nothing to worry about as the trend will likely continue. According to the research report, the uneven stock market return is nothing new as it has been there over the years and is likely to continue.

The shareholder wealth enhancement report that looks at stock returns from 1926 to 2022 clearly indicates that gains have mainly been concentrated over a small clique of plays. Likewise, the report shows that the pool of superstar companies with exponential returns is slowly shrinking.

For instance, five stocks were responsible for 10% of the wealth expansion in 2016. The number shrunk to four in 2019 and is down to three today. The report is of interest to any investor who has been worried about the craze for artificial intelligence.

AI Plays To Drive Gains

Generative artificial intelligence plays have emerged as the craze of Wall Street. Nvidia, one of the companies producing GPUs that will help power AI technologies, has more than tripled in value, with its market value nearing the $1 trillion mark. Microsoft, Apple, and Google are other big players with a strong interest in revolutionary technology that have also registered significant gains helping propel the two indexes.

The tech giants have added over $4 trillion in market share attributed to the AI craze. The increase is 47% more than the combined worth of all players in the Russell 2000 index.

According to Bessembinder, treating the basic pattern of a few plays driving the broader market higher as unusual is a big mistake. A clear look at market returns over the past years and the key drivers clearly indicates that the situation is permanent and likely to intensify. Therefore, AI plays will likely continue pushing the market higher amid increased interest in them.

Rarely has the market rallied in the past without alarm bells being raised that only a small group of stocks was fueling it. In late 2010, FAANG stocks, which included Facebook, Apple, Amazon, Netflix, and Google, were the key drivers. Investors who shied away ended up missing out on an ample opportunity as the five stocks dominated total gains

Concentration mostly occurs because of the role of profits when it comes to picking stocks. Investors tend to bet big on companies that generate more earnings at any given time. Likewise, the more money that a company makes, the higher the valuation it tends to control on Wall Street

The effect of compounding has also had a significant impact on Wall Street gains being concentrated on a few set of companies. The fact that some companies build gains upon gains has made it impossible to avert concentrations in the stock market.