Morningstar details 2 forces that could derail a stock market that's historically dependent on Big Tech
By at least one measure, the US stock market is more concentrated in its biggest names than it’s ever been.
The top 10 stocks in the S&P 500 now make up about 40% of the benchmark index, an all-time high, according to Morningstar data.
Morningstar
High concentration in any portfolio can be risky because, while it can mean more upside potential if the select few names do well, it also comes along with more downside risk if things go awry.
This particular episode of concentration may be especially risky for the broader market because the top eight companies are technology or technology-like firms, said Dominic Pappalardo, chief multi-asset strategist at Morningstar Wealth.
“The vast majority of the top 10 are all very likely to move together,” Pappalardo told Business Insider. “So if you have one or two of those tech names come out with, let’s say, weak earnings next quarter, it’s likely that all eight of those are going to move downward and sell off simultaneously, which is going to have an outsized impact on the level of that index.”
He added: “If you go back to a period like April, where we had the post-Liberation Day sell-off, those names also led the market downward.”
Pappalardo said it wouldn’t be surprising to see a pullback in the market in the near future, given that S&P 500 is near record highs. And while he said he doesn’t believe a recession is imminent, he also unpacked a few potential threats to the rally that could start to emerge in the months ahead.
For one, the labor market could soften further. The most recent jobs report showed historically weak employment growth in May, June, and July. Investors will get their next insight into the health of the labor market from the Bureau of Labor Statistics in the September 5 payrolls report.
The lackluster job growth appeared to be enough to convince the Federal Reserve to resume its rate cuts in September, which investors have cheered on. But Pappalardo said that rate cuts may only boost stocks if the labor market holds up.
“If the Fed is only cutting rates because they think the economy is weakening to a point where they have to step in and support it longer-term, that’s not a great thing,” he said.
Something else that could create issues for investors is inflation, he said. It has already proven sticky, with the Consumer Price Index up 2.7% year-over-year in July. Core Personal Consumption Expenditures, the Fed’s preferred inflation measure, was up 2.9% in July.
Tariffs have fed into that data, and are still working their way into the economy, he said. If inflation remains elevated, the Fed is more likely to keep rates high, slowing economic activity.
“There’s no question tariffs have increased prices for businesses and consumers, it’s just a simple fact,” Pappalardo said.
He added: “There are a lot of things that are lining up to be concerning.”
To diversify your portfolio further if you’re overweight tech stocks, Pappalardo suggested adding exposure to international stocks, small-cap stocks, and the healthcare sector because of its earnings prospects and low valuations.