2024 is a year for active management

The strength of the “magnificent 7” stocks has created an unrivalled amount of top-heaviness in the market, providing a boon to passive investors in 2023. However, diversification has historically proven more critical in times of excess market concentration, and the combination of a soft economic landing and rate cuts will likely allow for attractive performance to broaden to other high-quality companies—setting the stage for potential outperformance by active investors in 2024.

Only one investment decision mattered in 2023: owning the "Magnificent 7" stocks. This made it a challenging year for active managers as diversification weighed down investment returns. Although the major tech names continue to drive market performance, this year will likely see a broadening out of market breadth and, therefore, the potential for much-awaited outperformance by active investors.

The run by the Magnificent 7 has created historically unrivaled top-heaviness in the market. At the end of 2023, those seven stocks accounted for 47% of the Russell 1000 Growth Index! While this hyper-concentration in U.S. equities has benefitted passive investors handsomely, history shows that diversification becomes even more critical in times of excessive market concentration. The last time the Russell 1000 index became hyper-concentrated, the eventual unwinding of that concentration proved to be a very good time for active management, with 93% of large-cap growth strategies outperforming from June 2000 – March 2008.

The strong balance sheet characteristics and secure competitive market positions of the Magnificent 7 imply that a significant correction is unlikely. Yet, this year, the combination of a soft economic landing and rate cuts will likely allow for attractive performance to broaden to other high-quality companies, particularly those with attractive valuations. Better days are ahead for active investors who remember the virtues of diversification and recognize the current environment as a favorable setup for potential future outperformance by a broader set of companies.