Is the FAANG too big to handle?

The FAANG-stocks (Facebook, Amazon, Apple, Netflix and Google) have rallied in the US stock-market for the past years. From those Apple, Google and Amazon are currently the biggest public companies in the world measured by market capitalization.

The valuations of the FAANG-stocks are huge and together they compose 13 % of the S&P 500 index. They are the main reason why S&P 500-index was up 2,6 % in the first half of 2018. Without FAANG, the total return would have been -0,7 %. 

Many investment funds investing globally and to the US have been enjoying the ride throughout 2018 and shown promising graphs for the investors. A small comparison can be illustrated below:

The graph above shows us three example index-funds from Nordea: Global Passive Fund, the European Passive Fund and the North America Fund. The Benchmark describes the return of the MSCI World Total Return NTR from the past 6-months. As we can see, the Global fund has performed better than the European one from the mid of May. Also interesting observation is that when the spread between the European and the Global index-funds has been increasing, the holdings of the North America Fund have outperformed the global index. My hypothesis is that this is all due to the rapid growth of the FAANG-stocks during 2018.

That also creates a concern for the index-investors. If you buy the extremely popular iShares Core MSCI World UCITS ETF (EUNL) or not to mention the iShares Core S&P 500 UCITS ETF (SXR8), you are highly exposed to the movements of the FAANG-stocks since they form the biggest share of holdings of these index funds.

Netflix released its Q3 earnings a few days ago. A company of $4bn in net debt still possess a net debt/EBITDA of only 3,2 years. In the same time the free cash-flow has been estimated to be as negative as -$3bn. Especially the debt burden has already made several Wall Street-analysts to cut their price targets for the company and question the sustainability of the growth. Apple reported its astonishing Q3 in August and Amazon, Google and Facebook are reporting their Q3 earnings in the following weeks.

I have to say that I´m always a bit skeptical when someone mentions “easy-money” or “almost risk-free investment”. These are the words that I´ve heard from the FAANG-stocks lately. “If Apple and Amazon have grown so rapidly, no one can stop them, and they keep on growing and owning the planet with their data.”

We all should know that this isn´t a universal truth. How long can the growth continue? No-one really knows. Rapid growth can introduce risks that investors and the shareholders could not know yet. Already U.S President Donald Trump has been furious towards Amazon and some regulations have been planned to slow down Amazon based on lowering barriers to entry and increasing competition in the market.

The big question is: Are the FAANG-stocks already too big? 5 companies in the same sector already have a significant contribution to the global stock market and their movements contribute to the stock indices all over the world. If something negative happens with these companies (etc. a big crash), we are going to see significant echoes all over the global financial markets.

Being honest, it is hard to see what could be the thing that could drop the FAANG-stocks fundamentally. They have a reason why they are the biggest companies in the world: Their core business is solid, and they have already proved their capability to innovate and to create disruption in their markets. The main thing is to note here that even with good diversification you might not be safe from the movements of the FAANG-stocks.

Even as an index-investor, you might have a higher risk-exposure to the FAANG that you might think.

The Fear of Missing Out

What is fear of missing out? It is described as a pervasive apprehension that others might be having rewarding experiences from which one is absent. It is characterized by a desire to stay continuously connected on what others are doing and is generally abbreviated as FOMO. It is an exceptionally strong feeling that we all have, and it usually drives us into different activities.

Fear of missing out has its presence also in investing.

Let me tell you an example. Whenever I hear that my friends are going somewhere to have fun, or I watch them making their plans for the evening in the group chats of WhatsApp, I get a bit anxious that I´m going to miss out on something if I´m not joining. That has been the case as long as I can remember. I want to get the sense of belonging. I know that the rest of you want and crave the same.

The same goes for investing. If you are engaged a lot in a group that invests actively and follows the markets daily, the incentive for you to start investing comes greater. I mean, if other people are engaged in this and think it’s fun, why shouldn´t I join if it’s that fun?

Digitalization and social media offer us wide range of information and opinion. That makes also professional and industrial groups and communities more convenient to access and follow. My WhatsApp-example offers a case where the fear of missing out can be caused by a conversation in social media. When it comes to investing, sources for possible fear of missing out in Finland can be caused by Nordnet´s Shareville, Facebook´s Investment-club and following analysts, experts and economists on Twitter.

On the other hand, I consider this completely fine. I love these kinds of communities which debunk myths about investing, share information and encourage unsure people to do their research properly and start their way towards wealth and prosperity. This is why I started. I read a couple of books and did my research after I´ve realized how many of people from my school had been investing for the stock market a long time. My community at school and at work made me to think about long-term saving and investments and then kick-started my interest towards investments and financial markets. I feared that I was missing out of something big.

But fear of missing out can affect much more than just the decision on whether to start investing or not. It can also have a huge effect on investment decisions. This is one of the biggest reasons in my opinion why many investors fail in their most fundamental rule: They differ from their initial investment plan.

World is full of information and opportunities of investors: Annual reports, mergers, new products, internationalization etc. Stocks that weren´t interesting before suddenly become worth investing when something new happens. Some of us fall easily to this trap and put their money on the stock “just to see what happens”.

New initial public offerings have been emerging like mushrooms on a rainy day. These easily lure investors to “participate” since they have the fear of missing out potential profits and the “next big thing” that the firms promote. I´ve seen this at work: Whenever there is a new IPO coming, all of my colleagues are asking me and others to find out who is participating and evaluating their own participation.

Another effect from the fear is the incentive to make regular transactions no matter on the weather in the markets. Rational investors are afraid that if they wait for the 30 % market drop and keep their funds as cash, they could miss out the 40 % return before that happens. I think this is healthy and rational. They also tend to liquidate their cash positions whenever facing a bigger drop in the indices.

Fear of missing out is natural and in some cases it even can be a good thing but you must know how to control it. The most successful investors are those who know themselves the best, their strengths and weaknesses. They also know how to keep cool in the world of constant flow and provision of new additional information. We regular mortals have a lot to learn from them.

Personally I never participate in initial public offerings. I don´t fear missing out on something that I don´t have the full information. Paradox, isn´t it?

Text: SW
Pictures don´t belong to me.