The forward P/E of the top seven stocks in the S&P 500 is now a lofty 31x, much higher than pre-pandemic levels. (UBS)

As of the market close on Friday, the S&P 500 is up an impressive 12.4% (including dividends). But without the top seven stocks—Apple, Microsoft, Nvidia, Amazon, Meta, Tesla, and Alphabet—the S&P 500 return falls to only 1.6%. On average, the seven stocks are up an eye-popping 72% this year. In addition, only 25% of stocks in the benchmark are outperforming, the lowest reading in our data, which goes back to 1985.

As we have pointed out previously, narrow market breadth is typically a hallmark of an aging bull market. However, narrow breadth alone does not suggest there is a risk of an imminent market sell-off.

We would encourage investors to look beyond the market leaders this year to find more attractive opportunities. The forward P/E of the top seven stocks is now a lofty 31x, much higher than pre-pandemic levels. While the P/E for this group of stocks was higher in 2021, the 10-year Treasury yield averaged only 1.4% during this period, much lower than the current level of 3.75%.

By contrast, the rest of the S&P 500 trades at a more reasonable forward P/E of 15.8x, which is slightly lower than the pre-pandemic five-year average of 16.4x.

We understand the excitement about artificial intelligence and how many of the best-performing stocks this year stand to gain from this opportunity. But with valuations fairly high, these stocks seem to offer minimal margin of safety. Any hiccup in their results, a material slowdown in the economy, or higher interest rates could lead to underperformance.

Main contributors: David Lefkowitz, Nadia Lovell, Matthew Tormey

Content is a product of the Chief Investment Office (CIO).

Original blog - The surging seven , 5 June 2023.