April 29, 2025: Magnificent (or Maleficent) Seven (or Six)
By now, you are likely aware of the market significance and valuation premium of the “Magnificent 7,” encompassing the American tech behemoths Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia, and Tesla. For one, these seven companies represent over 25% of total S&P 500 market value; additionally, these seven firms contribute over half of the total index earnings growth, with Nvidia, Amazon, and Meta alone accounting for almost 75% of earnings growth among the Mag 7 cohort in the fourth quarter of 2024. The valuation premium among this basket of firms owes less to their present operating conditions (though impressive) and more to their healthy profit margins and outsized growth prospects. All seven firms currently carry forward price-to-earnings multiples above the S&P 500 index average level of ~22x, ranging from the reasonable (Google at 17.4x and Meta at 22.2x) to the absurd (Tesla at 130.1x). As global growth is subject to slackening along with a potential new world order in international trade, valid concerns around multiple compression can be ascribed three-fold: one, these companies are still growing but at a decelerating rate, raising the risk these firms won’t fully “grow” into future earnings; two, downstream (and less profitable) technology company customers of Mag-7 firms may cut capital investment, precisely as Mag-7 firms ramp theirs; and three, the highly uncertain trade landscape effectively casts doubt on earnings visibility multiple years out. The share prices of these seven firms have fallen farther than the broader market year-to-date, prompting Goldman Sachs analysts to recently refer to the group as the “Maleficent Seven.”
While these concerns are certainly valid and help explain part of the pullback, we remain constructive on the “Magnificent 6” (with apologies to Tesla, there are but only so many parking spots in the JWM garage). Ultimately, we deem these valuation concerns overblown in the near-term and believe that – over a longer investment horizon – total returns will continue to be predominantly driven by growing profits, not unwarranted multiple expansion, illustrated over the prior two-year period in the accompanying graphic.
Additionally, the Magnificent 6 firms all have robust balance sheets, with a collective $202.3B in Cash & Near-Cash alone against $450.4B in total short- and long-term debt. The Magnificent Six median average Return on Investment Capital (ROIC) – a measure of how effectively a firm converts investment into profit – is an eye-watering 43.5% on a trailing twelve-month basis, an impressive level well north of the ~12% of the S&P 500 Index. Lastly, we view the increased capital spend of these firms over recent quarters (largely on AI infrastructure buildout) as an opportunity, not a pratfall: we see longer-term value in the potential for increased share repurchase activity once elevated Capex spend moderates. Bottom line: while we certainly understand valuation premium concerns and may see multiple contraction over the near-term, we view the fundamental financial strength and first-mover AI positioning of Magnificent Six firms – with a proven track record of ROIC realization and exceptional future growth profiles to boot – as formidable tailwinds to the Magnificent Six firms over an extended investment horizon.
