Are “Magnificent Seven” Valuations Warranted?

Additional content provided by Kent Cullinane, Analyst, Research.

With Q4 2023 earnings season wrapping up, having nearly all the 500 S&P constituents reporting earnings, we review how the “Magnificent Seven” — comprised of Apple (AAPL), Amazon (AMZN), Alphabet (GOOG/L), Meta (META), Microsoft (MSFT), NVIDIA (NVDA), and Tesla (TSLA) — contributed to the broader S&P earnings this quarter and if their lofty valuations are still warranted. 

Earnings from the “Magnificent Seven” were mostly positive this quarter, with all stocks but TSLA reporting results that exceeded expectations. For the second consecutive quarter, TSLA missed expectations, which led to their market cap briefly dipping below $600 billion. In contrast, every other component of the “Magnificent Seven” has a market cap of over $1 trillion, with AAPL and MSFT both hovering around $3 trillion. One of the biggest winners from Q4 earnings was NVDA, whose year-over-year earnings surged nearly 500%, as artificial intelligence (AI) continues to propel this semiconductor stock to new heights. 

Impressive earnings from the “Super Six”, which is the “Magnificent Seven” minus TSLA, helped boost the blended year-over-year earnings growth rate for the S&P to 4.8%, which would mark the second consecutive quarter of positive year-over-year earnings growth. When looking at the “Super Six” contribution to the S&P’s earnings growth this quarter relative to the 494 remaining S&P constituents, it’s easy to understand why their performance has continued to drive equity markets higher. 

Massive Earnings Contribution From “Super Six” in Q4 

* Earnings season not fully completed with 488 S&P 500 companies having reported Q4 2023 results
Source: LPL Research, FactSet 02/29/24
Disclosures: Indexes are unmanaged and cannot be invested in directly. Past performance is no guarantee of future results. Any companies referenced are being presented as a proxy, not as a recommendation.

While earnings and performance have been remarkable, from a valuation perspective, these companies are trading at significant price-to-earnings (PE) multiples when compared to the rest of the market globally. The chart below highlights the aggregate PE ratio of the “Magnificent Seven” compared to other asset classes. 

When Will “Magnificent Seven” Valuations Come Back Down to Earth? 

"Magnificent Seven" PE ratio compared to other asset classes based on trailing 12-month earnings.

Source: LPL Research, Factset, 03/05/24
Disclosures: All indexes are unmanaged and can’t be invested in directly. Past performance is no guarantee of future results.

As noted in the “Magnificent Seven Valuations” chart, when compared to the S&P 500 equal-weight index, the “Magnificent Seven” is trading at nearly twice the PE multiple. We consider this rich even when considering the double-digit earnings growth this group is generating at a time when earnings for the rest of the market are down slightly. When looking abroad, the PE appears nearly three times larger than the MSCI EAFE Index and the MSCI emerging markets (EM) Index, though these markets may be value traps because of weakening earnings outlooks. 

Given the growth characteristics of these companies in a year in which growth stocks have continued to outpace value stocks by a significant margin, it’s no surprise they have outperformed the broader market. 

From an asset allocation perspective, the Strategic and Tactical Asset Allocation Committee (STAAC) favors the growth style amid better technical momentum and expected stabilization in interest rates as inflation likely continues its downtrend. The growth style, particularly technology-oriented companies, enjoyed a strong start to 2024 and should continue to benefit from an improved macroeconomic environment and superior earnings power, though valuations are elevated and the Committee is watching technicals closely for signs of a reversal.