Equities: Growth strategies with teeth?
KRISTIN FONG 25-May-2021
The performance of FAANG stocks in recent years has been a driving force in the equity market, particularly for large-cap investors. Given their extreme concentration in the most popular large-cap domestic indexes, this handful of stocks is likely to continue influencing performance. But what happens if the FAANGs bite back and begin to underperform? Are there better ways to make an allocation to growth strategies?
As of end of the first quarter 2021, FAANG+M* represented more than 37% of the Russell 1000 Growth Index, the primary benchmark for large-cap growth investors. Importantly, the weight of this basket has doubled since the end of 2015. That’s a significant move that has fueled returns for passive equity investors; however, since the beginning of the year we might be witnessing signs of a reversion to the mean.
From a fundamental standpoint there’s absolutely nothing wrong with allocating to the mega-cap tech stocks when they appear to have a long runway for continued earnings growth. But we also think it’s important to allocate meaningfully beyond those household names. Meaningful is the key word here, because if a passive index apportions one-third or more of its total weight to just a handful of stocks, it’s not truly diversified and it even undermines the importance of the rest of the portfolio. This is our key argument for reconsidering actively managed growth strategies. We believe there’s a better way to uncover and allocate to emerging tech trends with earnings growth potential.
So where, exactly, can growth and tech investors look outside the typical basket of household names today? One of our favored emerging themes is augmented and virtual reality (AR/VR). When you think of AR/VR, video games may come to mind. While gaming and entertainment will continue to use this fascinating technology, there are vast applications for AR/VR across multiple industries.
For example, the proliferation of these technologies already has started to show itself in advertising and e-commerce, as brands are looking for new ways to engage with customers through interactive filters, dynamic advertisements and virtual shows. Not only can AR/VR help drive unique marketing campaigns, but the technology has a potential to improve margins by enhancing the customer experience (via try-on and measurement technologies and, by extension, fewer product returns). The importance of alternatives to in-person shopping has only been boosted by the pandemic, and AR/VR is a budding solution.
Looking at the industrial and automotive area, AR/VR technologies are aiding in the design and testing of next-generation vehicles and infrastructure. Advancements here have allowed designers to more accurately depict how their models may react in various situations in real-time, enhancing decision-making for design teams and safety for consumers.
AR/VR even has the chance to fundamentally alter how we communicate with each other. Depending on the pace of future advancements in hardware to support AR/VR technologies, wearable devices such as glasses/lenses, watches, and headphones may soon be favored over our current touch-screens as they become more functional and available. This has potential to build upon current styles and methods of communications and social-sharing across society.
The AR/VR theme is but one example of an emerging tech trend. While the mega-cap companies certainly have robust R&D programs and will continue to have an appropriate role in growth portfolios (i.e. less than their current weightings in the indexes), an active manager may be in better a position to evaluate technology trends across all sectors, and invest in them in a more meaningful way.
As of March 31, 2021, Victory NewBridge Large Cap Growth Fund held shares of Alphabet, Amazon and Facebook. Please visit the fund page for more information.