A Method to the Madness: Introducing the KCR Large Cap Growth Model

“Didn’t we just learn that pouring trillions of dollars into technologies with uncertain profit profiles we didn’t fully understand was a bad idea? Tech investors seem to be most aggressive when they have the least visibility on the IP and valuation provides them with no margin of safety.” -Zac M., KCR Subscriber

After the entirely predictable and crushing losses in novelty tech stocks and the collapse of the market’s leaders post the Covid peaks, both groups are ripping in 2023. The market continues to follow the 2001, post dot.com, precedent with uncanny reliability. Today, like then, investors are piling back into novelty and high-quality tech stocks alike. We explained this precedent in our pieces ARKK vs. QQQ in the Dot.com Bust and Specious vs. Spurious Correlation.

By definition, mega-cap stocks are generally the principal fodder of index funds. But never more so than today. This note will explain the magnitude of the issue and suggest a balanced alternative for those seeking a sane path to participate in the performance of these leviathans while also explaining the incredible high-growth bargains available by investing in some smaller stocks.

Get our White Papers direct to your inbox: SUBSCRIBE

To summarize our earlier work: if you own Large Cap Core or Large Cap Growth Index Funds, you have massive exposure to the popular mega-cap stocks, including the usual suspects like Apple, Nvidia, and others. By delegating your investment decisions to a methodology that pours capital into the largest companies in a valuation-agnostic fashion, index investors today have an epic and unwitting loading on the growth factor.

Despite frequently reporting flat to negative sales, profits, and cash flows, the mega stocks that dominate these indexes have been on a tear. There has been no end to the documentation of how concentrated performance has been in 2023. We’ll add our two cents with the chart below.

The line shows the 12-month rolling batting average of stocks in the Russell 1000 Growth Index has hit dot.com lows eclipsed only at the peak of the Covid mania. This has historically been a sub-optimal time to chase the performance of one of the most crowded and concentrated trades in history.

Mega Caps: What Happened in the Dot.com Boom?

The chart below shows the weighting of the top 30 stocks in the Russell 1000 Growth Index into and out of the dot.com bubble. (We’ll fill the rest of this chart in on the next page, but we believe history is worth revisiting.)

YOU ARE NOW READING BASIC MEMBER LEVEL CONTENT

You might notice that the point of peak concentration occurred after the peak of the dot.com bubble.  Concentration peaked in

icons8 vertical line 50
icons8 lock 50

Subscribe now to unlock the full content

[login_link]

SOURCES

[i] The data in this chart includes not just the performance of the stocks but also the effect of Russell’s rebalancing program

[ii] Numbers are hypothetical based on relative performance being the only driver of concentration – we have omitted the potential future impact of the Russell Index rebalances

[1] August 31, 2000 – August 31, 2010, the S&P 500 index returned -16.71% cumulative or -1.81% per annum

[2] Ironically, the most empirically credible one is for interest rates to go back to zero, the dollar to hold its value and the economy to grow quickly, yet this argument has, understandably, never been put in front of us!

FAQ

As a reminder for our Financial Advisors: our models are available on a continuous basis, and most have been in production for over a decade.  If you are looking for a simple, concentrated, low turnover, and hard-hitting GARP investing strategy, we would like to talk with you.  Similarly, if you are looking for a model portfolio of the most proven and durable dividend payers that is simple to implement, please let us know.  KCR also offers a wide range of easy-to-use but sophisticated tools like our Equity Duration product, which allows you to estimate a given portfolio’s interest rate and inflation risk. Over the last 12 years, KCR has built and offers time-tested and class-leading products built by experienced and proven money managers for fixed to low prices.

Kailash Capital Research, LLC ’s sister company, L2 Asset Management, runs market neutral, long/short, large-cap, and mid-cap long-only portfolios with a value and quality bias.  L2 employs a highly disciplined investment process characterized by moderate concentration, low turnover, high tax efficiency, and low fees. While nobody can predict the future, we believe the recent resurgence in risk-adjusted returns seen across all products is the beginning of what may be a long period where speculation is punished, and prudence and patience rewarded.

  1. As a reminder for our Financial Advisors: our models are available on a continuous basis, and most have been in production for over a decade.  If you are looking for simple, concentrated, low turnover, and tax efficient model portfolios we would like to talk with you.  KCR also offers a wide range of easy-to-use but sophisticated tools.  Our toolkits can help identify mispriced stocks with the best and worst risk/reward characteristics, estimate a stock’s duration and warn you when a company is engaging in low-quality accounting. Over the last 12 years, KCR has built and offers time-tested and class-leading products built by experienced and proven money managers for fixed to low prices.
  2. Kailash Capital Research, LLC ’s sister company, L2 Asset Management, runs market neutral, long/short, large-cap, and mid-cap long-only portfolios with a value and quality bias.  L2 employs a highly disciplined investment process characterized by moderate concentration, low turnover, high tax efficiency, and low fees. While nobody can predict the future, we believe the recent resurgence in risk-adjusted returns seen across all products is the beginning of what may be a long period where speculation is punished, and prudence and patience rewarded.

Disclaimer

The information, data, analyses, and opinions presented herein (a) do not constitute investment advice, (b) are provided solely for informational purposes and therefore are not, individually or collectively, an offer to buy or sell a security, (c) are not warranted to be correct, complete or accurate, and (d) are subject to change without notice. Kailash Capital Research, LLC and its affiliates (collectively, “KCR”) shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, the information, data, analyses or opinions or their use. The information herein may not be reproduced or retransmitted in any manner without the prior written consent of KCR. In preparing the information, data, analyses, and opinions presented herein, KCR has obtained data, statistics, and information from sources it believes to be reliable. KCR, however, does not perform an audit or seek independent verification of any of the data, statistics, and information it receives. KCR and its affiliates do not provide tax, legal, or accounting advice. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for tax, legal, or accounting advice. You should consult your tax, legal, and accounting advisors before engaging in any transaction.

Nothing herein shall limit or restrict the right of affiliates of KCR to perform investment management or advisory services for any other persons or entities. Furthermore, nothing herein shall limit or restrict affiliates of KCR from buying, selling, or trading securities or other investments for their own accounts or for the accounts of their clients. Affiliates of KCR may at any time have, acquire, increase, decrease, or dispose of the securities or other investments referenced in this publication. KCR shall have no obligation to recommend securities or investments in this publication as a result of its affiliates’ investment activities for their own accounts or for the accounts of their clients.

© 2023 Kailash Capital Research, LLC – All rights reserved.

June 2, 2023 |

Categories: White Papers

| Authors: , ,  and 

June 2, 2023

Categories: White Papers

Authors: , ,  and 

[cologin_link]

Share This Story, Choose Your Platform!