Should we be worried about Stock Market Narrowness?

In the ever-evolving landscape of financial markets, historical data serves as a crucial lens through which we can gain insights into current trends and potential future movements. One such area of interest is the concept of stock market narrowness, which refers to the concentration of market performance within a relatively small number of stocks. Examining historical patterns of narrowness can offer valuable perspective on the dynamics at play in today's market environment.

While periods of stock market narrowness have often been associated with risks of market corrections and volatility, there are instances where narrowness has not necessarily translated into negative outcomes. One such example occurred during the late 1950s and early 1960s, a period commonly referred to as the "Go-Go Years."

During this time, a handful of growth stocks - particularly in the technology, aerospace, and electronics sectors - drove much of the market's gains. Companies like IBM, Xerox, and Polaroid captured investors' imaginations with their innovative products and rapid earnings growth. Despite the concentration of market performance within a select group of stocks, the broader market continued to advance, fueled by optimism about the prospects of these pioneering companies.

Another example of benign stock market narrowness can be found in the late 1980s, during the era of the "Nifty Fifty." These 50 high-flying stocks, including household names like Coca-Cola, IBM and McDonald's, commanded premium valuations and attracted significant investor interest. While the concentration of market performance within these blue-chip companies was pronounced, the broader market enjoyed a prolonged period of stability and steady gains.

In both of these instances, narrow market leadership was supported by robust economic fundamentals and strong corporate earnings growth. Investors' confidence in the long-term prospects of the leading companies allowed investors to overlook concerns about valuation and potential market concentration. As a result, the narrowness of market leadership did not lead to the destabilizing corrections or volatility that have characterized other periods of market narrowness.

These examples underscore the importance of context and underlying fundamentals in assessing the implications of stock market narrowness. While concentration within a select group of stocks can raise concerns about market fragility and vulnerability to corrections, it is not inherently negative if it is supported by strong fundamentals and sustainable earnings growth. Recently we have seen market concentration in stocks involved in artificial intelligence or AI.

Do not let an investment manager use the narrowness of the stock market as an excuse for poor investment results. Even if we are in an environment where a small number of stocks have been leading the stock market, those stocks were available for purchase. Any investment manager could have purchased them.

It’s also important to separate market concentration from your individual situation. While a handful of stocks leading the market may not always be bad for the future returns of the market, you still always want to make sure you are personally diversified and not over-exposed to the risk of any individual company that may have an out-sized position in your portfolio.

As investors navigate today's market environment, historical insights into both the risks and opportunities associated with stock market narrowness can inform their decision-making processes. By remaining vigilant to signs of excessive concentration and conducting thorough analysis of underlying fundamentals, investors can better position themselves to capitalize on opportunities while mitigating potential risks.

Any opinions are those of Southern Springs Capital Group and not necessarily those of Raymond James. Expressions of opinion are as of this date and are subject to change without notice. There is no guarantee that these statements, opinions or forecasts provided herein will prove to be correct. Investing involves risk and you may incur a profit or loss regardless of strategy selected, including asset allocation and diversification. Individual investor's results will vary. Past performance does not guarantee future results. Future investment performance cannot be guaranteed, investment yields will fluctuate with market conditions.

As Financial Advisors of Raymond James, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.

Securities offered through Raymond James Financial Services, Inc., member FINRA/SIPC. Investment advisory services are offered through Raymond James Financial Services Advisors, Inc. Southern Springs Capital Group is not a registered broker/dealer and is independent of Raymond James Financial Services.

David Jackson, MBA, CFP®, C(K)P™, is the Managing Partner at the Southern Springs Capital Group. For more information on Southern Springs Capital Group, visit www.southernspringscapital.com. Our offices are located at 2555 Meridian Boulevard in Franklin. We can be reached at 615-905-4585.