What are Nifty 50 companies
The prospects of a new “nifty fifty” bubble
The monetary policy of the central banks and the slow recovery of the economy result in a constellation on the stock exchanges that favors high-growth, quality companies from the technology and health sectors.
The financial markets are looking at the time after the Covid-19 pandemic. The lockdown measures have now been lifted in most countries and the process of normalization has begun in the economy.
Market participants are currently anticipating a rapid recovery in economic activity. For a few weeks now, cyclicals - stocks of economically sensitive companies from sectors such as industry and mining - have been more favored by investors again.
The previous favorites, large-cap growth stocks from the technology and healthcare sectors, have lost ground in relative terms. In the past two weeks of trading, the tech-heavy Nasdaq 100, dominated by giants like Apple and Alphabet, has fared worse than the Dow Jones Industrial, the Euro Stoxx 50 or the Nikkei 225, which have a higher share of cyclical sectors:
This sector rotation can last for a few weeks. But investors shouldn't write off “Big Tech” and “Big Health”. On the contrary: there is a high probability that the economic recovery in the coming quarters will be sluggish after an initial rebound. Among other things, the debt burden that companies have built up in recent years is becoming a braking factor.
"At the moment, the investors' imagination is being inspired by the relaxation of official restrictions," writes market watcher and investor Felix W. Zulauf in his current article for The Market. “That helps the indices that are heavily weighted in cyclical stocks, such as the Nikkei or the Dax. That can take so long before the real economic disenchantment sets in and the dreams of a sustained recovery burst. "
It is almost certain: growth will be a rare commodity on the stock exchanges in the years to come. Innovative companies that can steadily increase their sales and profits and that have a high balance sheet quality will attract an above-average share of investment funds. They will also be the main beneficiaries of the central banks' zero interest rate policy, which is driving more and more investors out of the bond and stock markets.
This could result in a constellation that is reminiscent of a period that occurred on the US stock exchanges between 1964 and 1973: the “nifty fifty” bubble.
Growth as a rare commodity
The Nifty Fifty were a non-fully defined group of the largest quality growth stocks on the New York Stock Exchange. “The idea of the growth stock gained popularity in the early sixties when investors wanted to participate in advances in fields such as technology, marketing and new management methods,” writes value investor Howard Marks in the book “Mastering the Market Cycle” (2018).
In the second half of the 1960s, economic growth slowed steadily in the United States, from more than 6.5% in 1966 to almost zero in 1970. In this environment, growth was scarce, and soon Nifty Fifty stocks like Xerox, IBM , Kodak, Polaroid, Avon, Revlon, Texas Instruments, Merck, Disney and Coca-Cola - wanted by institutional investors as “One Decision Stocks”. All you had to do was make one decision: buy it and keep it forever.
High flight, low fall
Investors were willing to pay ever higher prices for growth and quality. In late 1972, at the height of the nifty-fifty mania, Polaroid hit a P / E ratio of 91, McDonald's hit 86, healthcare giant Johnson & Johnson 62, and Xerox 49.
The S&P 500 index was valued at a PER of 19 at the time. The yield on ten-year US Treasuries was 6.2% in 1972, which corresponds to a P / E ratio of a little over 16.
The Nifty Fifty had grown into a huge bubble. But on the way there, investors were richly rewarded: From 1964 to 1972, the Nifty Fifty beat the overall market by lengths - depending on the calculation by 12 to 15% per year. The sharp bear market in 1969, during which the S&P 500 fell by 35%, also left the Nifty Fifty largely unaffected.
The end didn't begin until mid-1973 when one of the stock market favorites crashed after the other. In the 1973 and 1974 bear market, triggered by the collapse of the Bretton Woods system and the first oil crisis, Disney and Polaroid stocks lost 90%. Xerox collapsed 70%, cosmetics company Avon lost 86% of its value.
Investors who bought at the height of the bubble sometimes had to wait decades for the share price of individual nifty-fifty stocks to return to their 1972 levels. Others were given the unique opportunity to buy quality stocks at sell-off prices: Value investor Warren Buffett built up his stakes in crashed Nifty-Fifty stocks like Coca-Cola and Gillette in the 1970s.
IT and health as driving forces
What does the nifty-fifty bubble experience have to do with the present? A striking parallel is the challenging economic environment and the fact that more and more companies are finding it difficult to increase their sales and profits vigorously and sustainably.
Genuine, innovation-driven growth remains rare. Even before the Covid-19 crisis, the bull market on the stock exchanges was therefore driven by high-growth giants such as the “FAANMG” shares Facebook, Apple, Amazon, Netflix, Microsoft and Google. Covid-19 has not changed anything in this constellation. “The IT and health sectors, the driving forces behind the boom so far, will suffer periodic setbacks. But their basic trends are positive, ”writes market watcher Alfons Cortés.
Another factor that speaks in favor of the high-growth "mega caps": The passivation of investor behavior means that more and more money is flowing into index products. And because the most common indices are weighted according to market capitalization, most of the investment money goes into the heaviest index stocks.
The next phase of the bull market
A thesis can thus be formulated: After an interlude in which cyclicals make the biggest advances on the stock markets, the pendulum will swing back in the coming months and quality growth stocks will again take the lead.
Again, as in the late 1960s, investors will reward growth with a premium, and the next phase of the bull market will focus on the small group of innovative large corporations able to grow their sales and profits. And because investors are more global today than they were fifty years ago, the new Nifty Fifty will be constituted worldwide, not just in the USA.
In the table below, The Market presents an overview of the fifty companies that could make up the circle of the new Nifty Fifty. Selection criteria are a market capitalization equivalent to at least $ 50 billion, sales growth of at least 7% per year over the past ten years and earnings growth (per share) of at least 10% per year.
Not surprisingly, the selection is dominated by the IT and communication services sectors. The FAANMG are all there, as are their Chinese counterparts Alibaba and Tencent. Visa and Mastercard make it into the selection, the chip giant TSMC from Taiwan and the Dutch chip supplier ASML (the latter two are also among the best quality stocks in the world in other surveys).
The new Nifty Fifty are also dominated by the USA: 32 of the 50 names come from America, most of them from the IT and communications sector. The second most representatives with 7 are China, including the spirits manufacturer K Weichow Moutai and the online retailer JD.com.
Europe is relatively weakly represented. In addition to ASML, the Danish pharmaceutical company Novo Nordisk, the French luxury goods houses LVMH, Hermès and Christian Dior as well as the Spanish clothing chain Inditex make it into the selection.
No company from Switzerland or Germany qualified. Nestlé, Novartis and Roche as well as German names like SAP and Siemens do not meet the strict growth criteria. Other big stocks from Switzerland and Germany - Lonza, Richemont, Sika, Merck KGaA, Adidas or Fresenius - would qualify in terms of growth, but fail at the hurdle of $ 50 billion in market capitalization.
The list is of course not exhaustive. The qualification criteria for size and growth are arbitrarily chosen, as is the number of 50. With only marginally lower growth criteria, L'Oréal, SAP or the consulting firm Accenture would have qualified.
In addition, the growth figures are based on historical data, which is no guarantee of future expansion rates. Apple, for example, will hardly be able to maintain the rate of growth of the past ten years in the future. Nevertheless: Anyone who has managed to increase their earnings per share by at least 10% per year over ten years is one of the elite in the blue-chip universe.
Rating as a tough nut to crack
From an investor's point of view, the all-important question in the end revolves around valuation. Even the best quality company can be a bad investment if the purchase price is too high.
So, for today's Nifty Fifty, is it more like 1969 or 1973?
Be careful with all-too-simple historical parallels: Individual stocks such as Amazon, which is notoriously highly valued on a P / E basis, or the cloud specialist ServiceNow have reached Polaroid level, but most of the Nifty Fifty presented are trading at P / E of 30 to 40.
That is of course not cheap. In an environment in which ten-year Treasury Notes yield 0.6% and thus have a theoretical P / E ratio of over 160, a P / E ratio of 31 for a share like Microsoft is not overstated either.
Speculative bubbles are carried by euphoria in their final phase, when all market participants want to jump on the bandwagon. This is the best time for investors - unless they make the mistake of speaking of “one decision stocks”.
Hardly anything of this kind of euphoria can be seen in the markets today. So it is quite possible that the last chapter in the new nifty-fifty bubble is just beginning.
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