Behold the Magnificent Seven, with Nvidia as the brightest star
• Tech giant generates six times the cash flows it was making five years ago, largely on AI
As the investment adage goes, “time in the market is more important than timing the market”. Global equity markets posted eye-popping gains of 23% in hard currency in 2023, after declining by 18% in 2022. The tech-heavy Nasdaq index led the rally, delivering most of its gains in the first half of 2023 when it rose 39% — its strongest start to a calendar year on record,
The Magnificent Seven — Meta (Facebook), Apple, Amazon, Nvidia, Alphabet (Google), Microsoft and Tesla — were up 108% in dollar terms in the 2023 calendar year on an equally weighted basis, with chipmaker Nvidia tripling its value (up 240% in dollar terms).
In 2023, the group of seven leading tech companies more than doubled in size, adding about $5-trillion to their combined market cap. Excluding the Magnificent Seven, global equity markets would have been up a mere 12% in dollar terms over the past year — in line with the previous decade’s annual gains.
DEFENSIVE
Why did the Magnificent Seven lead the market in 2023?
The seven tech giants, which account for about a third of the market cap of the S&P’s largest 500 listed companies, are seen as high-growth and relatively defensive stocks in an environment in which the US Federal Reserve hiked rates at the fastest pace in four decades to combat rampant inflation.
These companies have been able to generate strong revenue growth and carry little debt on their balance sheets, making them less exposed to higher interest rates. They also received a boost in 2023 when ChatGPT was launched, democratising access to generative artificial intelligence (AI), which can create something new in the form of text, images, music or even code from a few simple prompts.
Humans’ fascination with machines isn’t new. In 1970 Marvin Minsky (an MIT computer scientist) predicted that within eight years we would have a machine with the general intelligence of an average human being, which would be able to read Shakespeare, grease a car and tell a joke. However, the promise of human-level intelligence took decades to materialise.
It was only in the early 2000s that machines excelled at specific tasks such as identifying pictures, translating text and beating human grandmasters at chess or Go, the incredibly complex Chinese strategy game. As faster computer processors were developed, especially to generate graphics for video games, and the cost of data storage plummeted due to cloud computing, it became possible for machines to start learning.
Instead of humans providing a certain hypothesis, such as training the model by providing an example, machines started to deal with abstract tasks by teaching themselves using large amounts of data.
The Magnificent Seven have also benefited from the tailwind of being perceived as sustainable companies. In fact, the MSCI world ESG leaders index has four of the Magnificent Seven as the largest holding at twice the weighting of the MSCI world index.
The performance of these tech stocks and underperformance of major energy companies, which are excluded from these indices, helped sustainable funds and indices outperform in 2023. However, whether the stocks have truly sustainable characteristics is a subject of controversy.
A recent US Congress hearing with five big tech CEOs reinforced the point that a lot more needs to be done to safeguard children online.
The brightest star among the Magnificent Seven is Nvidia, founded by Jensen Huang in the 1990s. As an aside, his relative, Lisa Su, is CEO of rival US chipmaker AMD. Nvidia has created a platform for the development of AI software and AI start-ups, with its own chips dominating this high-growth market.
Nvidia now makes six times the cash flows it was making five years ago, largely driven by the AI segment. The market has already reacted to this, increasing the share price of the company threefold in the past year.
The allure of automating routine tasks, which can be performed more quickly and accurately by a machine, has obvious advantages for many businesses. However, in many instances human interaction remains hard to supplant.
PRODUCTIVITY
Some of the dire predictions — that machines would, for instance, completely replace radiologists — are yet to materialise because the work is not only about interpreting images but also analysing patient data and developing treatment plans for specific patients.
Likewise, research to improve productivity of crops in the developed world can benefit from applying AI to biotechnology to improve yields. And yet, the specific environmental factors in developing markets are rarely considered, thereby missing out on the biggest potential improvement in global food output.
Coded Bias, a recent Netflix documentary featuring Dr Joy Buolamwini, one of the founders of the Algorithmic Justice League, highlighted how facial recognition had an embedded negative bias towards black people, which could lead, for instance, to the wrong suspect being arrested for a crime.
In the 2016 Hollywood blockbuster featuring Denzel Washington, aptly named The Magnificent Seven, a band of cowboys takes on a gang to save a village. While the world is always in need of heroes in such situations, let us not forget that four of the Magnificent Seven ended up being killed in that movie.
As always, when it comes to investments, the winners of yesteryear may not be the ones who triumph this year.
THE TECH GIANTS ACCOUNT FOR ABOUT A THIRD OF THE MARKET CAP OF THE S&P’S LARGEST 500 COMPANIES