US Large Caps: Still my largest allocation for the second half of 2024

Main thesis/background

The purpose of this article is to discuss the frontier stock market and why I continue to believe in the value within US large-cap stocks. This is a follow up to my review from A month ago when I covered this idea, and large-cap companies have actually continued to perform well in the meantime — as measured by both the S&P 500 and the large-cap ETF:

As you can see, both made gains and both beat the “global total” ETF tracker (Vanguard Total World Stock Index (VT)).

I saw an opportunity to reiterate this thesis as we approached the middle of the year and stocks as a whole saw some volatility over the past week. Rising daily fluctuations may make some readers feel a bit uneasy – and who… Can you blame them after the year we’ve already had!?

Against this backdrop – strong gains and short-term weakness – I figured it was time to reassure my followers why I continue to have faith in US large-cap stocks over the coming months. I won’t let temporary price action dictate my long-term planning, and there are a bunch of reasons why I think the S&P 500 (the most popular large-cap stock index) will be an alpha generator compared to the rest of the world. The second half of the year. I will address each supporting reason separately in the following paragraphs below.

*I own the Vanguard S&P 500 ETF (VOO) which is my largest individual holding. This will remain the case for the foreseeable future. The Schwab US Large-Cap ETF (SCHX) is also a great option with a similar expense ratio of 0.03%.

Large US companies provide a lot of international exposure

A major theme that has evolved over time has been how large-cap US stocks have enhanced their exposure to non-US stocks. While this is not necessarily true across the board, it is absolutely true for the largest sector within this index – information technology – and other consumer-oriented fields.

This is important because if a person buys a mid-cap stock, he or she may or may not have international exposure. Some companies (such as many public service providers) focus almost exclusively on the local market. But when one looks at a “large-cap” US index fund, the reality is that it is dominated by Mag 7 and Info Tech in particular. So, unless a person becomes more creative with their holdings, if they own a large-cap US equity ETF, they probably have a lot of international presence even if they don’t realize it.

To put this in perspective, let’s look at the revenue sources for each sector of the S&P 500. Results vary, but, as I mentioned, the largest weights in the index also have the largest non-U.S. revenue contributions to the overall revenue picture:

Now, I’m not here to say don’t invest in non-US stocks. I have written and written about the reasons many times. But what I want to stress is that even if one is concerned about negative headlines in the US, that should not necessarily cause you to stay away from US stocks. This is because major American companies do a lot of business abroad and are more concerned about it worldwide economics than they are about any particular jurisdiction. Is America the most important? I would say yes. But just because America might see a negative headline or two doesn’t mean all the big companies here will feel a lot of pain.

This reality provides built-in diversification. Not only that, but when the dollar falls as it has been the past few months, it can actually improve the profits of large US companies because their foreign revenues (in foreign currency) can turn into more US dollars:

Ultimately, I see an environment where US large-cap stocks have some positive catalysts. They are well positioned for international growth and have tailwinds for a declining dollar on hopes of a rate cut from the Fed sometime in the next 6 to 12 months. This makes it easier for me to “stay the course” with my holdings in the S&P 500, Dow Jones, and NASDAQ 100 indices.

**In addition to VOO, I own the SPDR Dow Jones Industrial Average ETF Trust (DIA) and NASDAQ QQQ (QQQ).

This is not a FOMO rally

The next topic to cover is why I believe there is support for current (and higher) stock prices in the future. It has to do with investor confidence or enthusiasm – which is often a conflicting indicator. Simply put, when I see markets making new highs (as they have been the case before) and investors’ caution goes down the drain, then I start shifting to cash, gold, muni, and other asset classes. I’ve done this consistently over the years when I feel investors are ignoring risks and over-exaggerating. It is often useful.

The logic behind this is that often when exuberance takes over the market, the downside can be difficult. This is because when markets rise, those who were on the sidelines and who were patient can no longer take it and dive in – often at exactly the wrong time. This is known as “fear of missing out.” While it’s easy to be cautious when the market is in a swoon, it’s much harder to be cautious when you’re holding cash (or other less risky alternatives) and your friends and peers who take more risks are being rewarded for it. This can bring people on the sidelines near the top, and eventually, the buying enthusiasm runs out because there’s no one left to buy! The inevitable decline occurs.

I’m highlighting this because it is no What I see now. If that were the case, I wouldn’t be here to write a bullish review. Instead, investors are starting to get cautious and are almost anticipating a short-term pullback or a bigger decline. We can see this in the form of option activity. At the time of writing, the cost of hedging against a 10% decline in the S&P 500 is close to its high in October of last year:

Now, this in no way means that the markets are destined to go any further. I think they are, but I could be wrong – I’m not infallible. But the point I’m trying to make is that there is a lot of caution in the market. Investors pay the price for protection from collapse. This could be the right move on their part, but I see this as a positive because it means that the markets are behaving rationally. When that stops happening, I get nervous, and now I’m very relaxed.

What if something bad happens?

Of course, there are risks to investing at these levels. I’m not going to sit here and make overly optimistic forecasts and ignore the current risks. The market has been in decline for some time, and it will inevitably correct at some point. I think the risk-reward proposition is appropriate, but investing at all-time highs can be a mixed bag. We have to remember that markets have become expensive (both in absolute terms and relative to history), so some balancing is required here. I’m not suggesting investors go all-in or buy “delivery first.” I don’t think this kind of pumping serves anyone, and I will never engage in this kind of hyperbole.

However, to balance this review, let’s be aware of some major key risks that could resurface and derail things. Many of these risks are geopolitical and I won’t “ignore” them now, but they have been going on for a while, so I don’t see them as major headlines. But forces such as the Russia-Ukraine war, the conflict in Gaza, and the possibility of China becoming more aggressive toward Taiwan all have global implications. So, while they appear to be regional conflicts, they bring in global superpowers, and this has the potential to spill over into something bigger. So far, containment has been achieved, but this may change.

What if that changed? Or is a new conflict emerging along with it? The outcome is likely to be bad for stocks. But the good news is that “bad” tends to be fleeting. If we look at history – including the recent conflicts I just mentioned – we see that their impact on US stocks tends to be short-lived:

This is essential to understanding a long-term plan. While we cannot predict with certainty when the next black swan event, or military conflict, will occur, we can have assurances that those events tend to calm down over time and provide a buying opportunity. Things like the global financial crisis and the coronavirus have certainly caused major disruptions in stock markets. But we cannot invest as if this type of event is just around the corner. Well, you can, but you’ll likely lose out on years of compounding and profits if you do. Today, I can take comfort in knowing that the next event that could lead to a spike in volatility might be a passing event, as history mostly tells us.

Be tactical if you move outside the United States

My last point takes a look at diversification. The benefits are well known and I have amplified this fact in many reviews. I have exposure outside the US, and this positive review on US stocks should not distract from the fact that I own and will continue to own stocks outside my domestic borders. There is an advantage in completing the portfolio and attracting country-specific incentives. This is the case today and will be the case tomorrow.

But I want to be clear that readers should look beyond boxes whose names are just “Global” or “All World.” Make sure you understand what you want to own and whether the funds you are considering owning actually offer that. For example, just because you choose a “global” or developed markets fund, you may end up with more exposure to the US than you think. This may not be an inherently bad thing, but it can be somewhat self-defeating if the reason you have it is to gain exposure outside the US. I bring this up because many global indices tend to be US-heavy, as shown in the chart below:

This isn’t really meant to be a word of caution, but rather a criticism of the money you have, what you want to get out of it, and what it offers. If US stocks dominate a “global” fund, does this really meet the goal of diversification? This is just a point to keep in mind, but an important one at that.

**For holdings outside the US, I own ETFs in multiple countries. These funds include the iShares Canada ETF (EWC) and the iShares Mexico ETF (EWW). I also own the SPDR Euro STOXX 50 ETF (FEZ) for European large-cap stocks and the Schwab International Equity ETF (SCHF) primarily for the Japanese and UK exposure it offers.

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With last week’s volatility fresh in my mind, I thought it was a good time to reiterate why I continue to like US large-cap stocks in 2024. Will prices rise a bit? Maybe, but earnings are rising, which is a major driver of stock prices over the long term:

Additionally, there is a lot of caution in the market suggesting that we are not in a state of euphoria – which would have me very concerned.

The bottom line is that I remain a supporter of equity bullishness, especially with respect to large-cap US stocks. While last week was a bit worrying, May was overall positive. I expect the S&P 500 to build on this momentum heading into the upcoming summer months.