The next big move for the stock market could come from a new group of stocks.
He S&P 500 Index is marking one new all-time high after another in 2024. The widely used stock benchmark rose 15% in the first half of 2024 and is up more than 50% since the 2022 bear market lows.
The largest companies have led the current market rally in the S&P 500. In fact, market concentration is reaching levels investors have not seen since the 1970s.
The increasing market concentration is the result of several factors. It is worth noting that many of the largest companies have experienced solid earnings growth as they have been well positioned amid the crisis. artificial intelligence boom. But rising concentration has historically been reversed, and one market indicator suggests that situation may be about to change.
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US money supply finally growing again
Growth in decline money supply is historically linked to greater concentration among stocks, according to Khuram Chaudhry, Head of European Quantitative Strategy at JP MorganWhen money is readily available and cheap, smaller companies can grow more easily. When the money supply is limited, larger companies have the advantage of using existing cash flows and their balance sheet to fund their growth.
Starting in 2021, we have seen a decline in a measure of the U.S. money supply called the M2 money supply. M2 includes cash in circulation, deposit accounts, money market accountsand Deposit certificates. Basically, this is all the easily accessible money in the country. By 2022, amid restrictive policies of the Federal ReserveThe year-on-year growth of the M2 money supply was negative and remained so during the first quarter of this year.
But the M2 money supply is finally growing again. In April and May, the M2 money supply increased by about 0.6% year-over-year. While it is still well below its 2022 peak levels, we are finally seeing an increase in liquidity.
US M2 Money Supply YoY data by Charts And
Money supply could get a further boost later this year as the Federal Reserve looks to ease its restrictions. Chairman Jerome Powell has said he expects to cut interest rates once this year, but many analysts believe that is conservative. Futures markets indicate that most traders currently expect at least two interest rate cuts by the end of this year.
As money supply growth accelerates, it could become easier for smaller companies to grow. As a result, those smaller companies could lead the next leg of the current market rally.
How to invest as money supply growth accelerates
If you're hoping that fiscal policy easing will reverse the sharp rise in market concentration, there are a few ways you could invest.
The easiest way to invest in a declining market concentration is to use a equal weighted index fund As the Invesco S&P 500 Index Equal Weighted ETF (RSP 0.04%).
The S&P 500 is a capitalization-weighted index, meaning that larger companies have a greater influence on the performance of the index than smaller companies. At the current level of market concentration, the three largest companies account for more than 20% of the total value of the index. The top 10 account for more than 37%. If you invest in a standard S&P 500 index fund, your portfolio is heavily dependent on just a handful of companies.
With an equal-weighted S&P 500 index fund, the fund invests all of its money equally across all components of the S&P 500. The portfolio is rebalanced once a quarter and adjusted for new companies joining the S&P 500 and old ones leaving. Historically, the equal-weighted index outperforms the cap-weighted index, as smaller companies generally grow faster than larger companies. However, that hasn't been the case recently.
Another option is to invest outside the S&P 500. There are thousands of stocks to invest in that trade on public exchanges. The S&P 500 only tracks about 500 of the largest companies. Decreasing market concentration would also favor small- and mid-cap stocks. Buying shares of a Russell 2000 index fund like the iShares Russell 2000 ETF (MMI -0.03%) It is a great way to gain exposure to small-cap companies. Vanguard Extended Market ETF (VXF 0.21%) It provides a way to match the performance of almost every stock on the market except those in the S&P 500.
While no indicator is correct all the time, money supply growth is not the only factor that suggests Now may be a good time to start investing in smaller companies.Therefore, you may want to tilt your portfolio towards investments like those mentioned above as there are increasing signs pointing towards a major turnaround in the stock market.
JPMorgan Chase is an advertising partner of The Ascent, a Motley Fool Company. Adam Levy has no positions in any of the stocks mentioned. The Motley Fool has positions in JPMorgan Chase and recommends it. The Motley Fool has a disclosure policy.
