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The happy few

The happy few

01-04-2021 | Graph of the week

Horatio Alger (1832-1899) was an American writer whose novels often told stories of poor boys who, through hard work and determination, achieved great success. The rags-to-rich theme is popular, but the chance of this happening in real life these days is very slim.  

  • Jack  Neele
    Jack
    Neele
    Portfolio Manager

There is also very little chance of such a home run happening on the stock market. This month business bank JP Morgan published a study carried out some time ago on the ins and outs of the companies in the Russell 3000 Index, which tracks the performance of the 3,000 largest US-traded stocks. The most striking conclusions are: 

  • Almost 40% of all stocks showed a permanent1 decline of more than 70% from their peak. The figures were even higher in sectors such as technology, materials and biotech 
  • Two-thirds of stocks underperformed the index itself  
  • For 40% of stocks, their absolute returns were negative 

The table below shows the results, divided into the various economic sectors. Interestingly, around 73% of the companies in the technology sector underperformed the index. This shows once again that most of the value is created by a very small group of ‘megawinners’. 

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Overview

The percentage of stocks with negative absolute returns in de Russell 3000 Index, 1980-2020

Source: Factset, Bloomberg, J.P. Morgan Wealth Management, September 2020.

The study went on to look at the distribution of excess returns compared with the index. The majority of companies added no value (the median is below zero), while only a very small portion were extreme winners. These are, however, precisely the stocks we seek to find in trends investing.

Distribution of winners and losers compared with the Russell 3000 Index

Source: Factset, Bloomberg, J.P. Morgan Wealth Management, September 2020.

There will always be competition and the process of creative destruction is also one of ongoing innovation, where successful new applications and technologies destroy the old. A total of more than 400 companies disappeared from the S&P 500 Index during the above period, because they ran into problems. As trends investors, we have the difficult task of distinguishing the winners of the future from the winners of the past.

1A permanent decline is defined as a decline from the peak value with minimal recovery

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