Bad Breadth: 5 Giants’ Market Dominance Is a Grim Sign, Goldman Says

One-fifth of the S&P 500 is comprised of five giants, so then look out. That’s the message from Goldman Sachs.

“Sharp declines in market breadth in the past have often signaled large market drawdowns,” David Kostin, Goldman’s chief equity strategist, and his team wrote. “Narrow breadth can last for extended periods, but past episodes have signaled below-average market returns and eventual momentum reversals.”

The S&P 500 is 17% below its Feb. 19 record, but the median stock trades 28% down from that peak, they noted. At the same time, a mere five large stocks constitute 20% of the index’s market value.

Can you guess who those fab five are? No surprise, that would be Alphabet, Amazon, Apple, Facebook, and Microsoft. The Goldman report pointed out that this quintet, with their tech market dominance and mighty balance sheets, were the leaders during the late, lamented bull market. Yet now, with so many smaller stocks in retreat, the five’s market concentration has only grown.

All five report earnings this week, although just Amazon (blessed with the coronavirus-driven surge in online shopping) and Microsoft (benefiting from its booming Azure cloud business) are expected to post better results than the year-prior quarter. Of course, those two have stocks that are comfortably ahead in 2020, with Amazon gaining a heady 22% since January 1 and Microsoft up 6.25%.

Of the other three, only Facebook is below the 10.9% year- to-date decrease in the S&P 500. The social network has lost 13% since New Year’s. Google-parent Alphabet is down 9.6% and Apple 7.3%. Facebook and Alphabet are encountering falling ad revenue, and Apple is suffering from shrunken demand for its hallmark iPhones.

Well, the five tech monsters still command enormous capitalizations. The average market value of S&P 500 companies is $45 million. Of the big five, Facebook is the smallest at $605 billion, and Microsoft the largest at $1.42 trillion.

The telling thing is, as the Goldman report indicated, the index’s breadth narrowed right before the 1990 and 2008 recessions, as well as prior to the economic slowdowns of 2011 and 2016. In all of those cases, the market took a dive. Today, no one doubts that the US and the world are heading into a recession. The widespread Wall Street hope, though, is that investors saw the stock market low in February.

That faith may be misplaced. Reason: The market leaders’ stock performance doesn’t dovetail with their lofty valuations. And history teaches that the result is a bad share-price slump in these hotshots, what Goldman calls a “catch down” to their weaker counterparts.

And since earnings are a big factor in driving stocks, it’s unnerving that, with a quarter of S&P 500 companies disclosing first-quarter results thus far, a scant 36% have exceeded analyst estimates. This is the poorest showing since the 2008-09 financial crisis.