As I write today, 2024 is already set to be an interesting year. Interest rates are as high as they have been since the Financial Crisis of 2008-2009, elections are coming in November, and the most closely watched U.S. stock indices are at all-time highs. Today’s markets are eerily similar to the Nifty 50 era of the late 1960’s and early 1970’s (Coca-Cola, Eastman Kodak, GE, IBM, Xerox), the dot-com technology bubble of the late 1990’s. and the residential real estate debacle that led up to the financial crisis of 2008-2009. Today, the Magnificent 7 stocks have been dominating the financial press for most of the past twelve months. Specifically, four of these, Amazon.com, Meta Platforms, Microsoft, and Nvidia have dominated the indices to such an extent that index funds no longer qualify as diversified under the 1940 Prudent Investor guidelines. Their narrow leadership and price-driven momentum have led many investors to ignore their valuations, and portfolio diversification, and take on extreme portfolio risk. No two prior periods are ever exactly the same, still this brings to mind Mark Twain’s maxim, “History doesn’t repeat, but it rhymes.” 

Any time we have one sector or group of stocks that drastically outperforms the rest of the market, it is time to pay close attention and be prepared for the inevitable reversal of fortunes. Simply put, there is elevated risk in the market. The bursting of the Dot-Com Tech Bubble led to the “Lost Decade” in equities, albeit October 2002 – October 2007 was a very positive period before the rollover leading up to the Financial Crisis of 2008-2009. Will today’s extreme valuations lead to a similar extended period of below-par performance? Only time will tell however I would not bet against it. 

The prime key to prepare for the volatility that lies ahead is diversification. Even during the Lost Decade, when the S&P 500 returned -1%/year and the NASDAQ 100 returned -6%/year, the energy sector, small caps and emerging markets performed quite well. We believe that diversification is a hallmark to good investing, and we recommend taking only modest (2%-3%) over and underweight positions in sectors relative to their weight in the S&P 500 or the S&P 500 Equal Weight index where the smaller companies are weighted the same as the larger companies. 

There is no denying the excellent performance of the Magnificent Seven. These were the prime contributor to the 24.2% gain in the S&P 500 in 2023. Yet, with 2022’s loss of 19.4%, the two-year gain is just barely above 0%! Globally, the past year’s rally has been broader than most have even noticed. Furthermore, it is not just Technology. America’s 30% Tech weight is the largest among global markets. Tech-lite overseas markets have done really well with industrials, financials, and utilities. Markets that have hit all-time highs include Australia, Great Britain, Denmark, France, Germany, India, Ireland, Italy, Japan, Netherlands, and Spain. The bull market has been a much more a global phenomenon than the weekly press would have us believe. 

Western European economies get bad press for not being as dynamic as ours due to structural issues; bureaucratic strictures to business development, strict labor laws, and political meddling in capital allocation. Although true, these factors are already priced in. Inflation is ebbing on the continent and interest rates should trend down this year. This will be favorable to Europe’s value-oriented sectors including Energy, Financial Services, and Industrials.

According to the World Economic Outlook from the International Monetary fund, global economic growth is expected to pick up slightly in 2025, largely due to emerging markets led by India and China. Although the U.S. should continue to dominate, we recommend investors allocate 10%-15% of their portfolio to global securities.

The recession predictions that dominated the press about a year ago have ceased. Accordingly, the global markets have been strong because the domestic and global economies have not rolled over. This and rising corporate earnings estimates are what the markets care about most. The near-term risk here is that interest rates do not come down as much or as soon as the markets anticipate. Adding in election year jitters, we have a recipe for volatility. All the more reason to be properly diversified both domestically and globally.

The rise of artificial intelligence (AI) will impact companies and the economy in ways that we cannot foresee today. This is reminiscent of the internet bubble of the 1990’s. It will be a long time before we can see the real benefits. Meanwhile, the combination of AI hype and ample pandemic-related liquidity have created inflated valuations in a narrow range of semi-conductor and related technology stocks. Historically, be it Time-Sharing stocks (1960’s), the Nifty Fifty stocks (1970’s), Internet stocks, (1990’s), or tulips (1630’s), manias have ended with a thud and have had adverse consequences to those who were over-exposed. Stocks have always been the best long-term asset class and will continue to be. Still, sound portfolio construction, boring as it may be, should never be shunned. 

Kenneth N. Green is the Senior Vice President and Director of Investments at Marc J. Lane & Company, the investment affiliate of The Law Offices of Marc J. Lane, a Professional Corporation

Please feel free to reach out Marc Lane in confidence at 312-372-1040 or MLane@MarcJLane.com to discuss how we can help you achieve your investment objectives.