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⚡ The Rise of the 'Magnificent 7'
A closer look at the modern monopolies dominating the market
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‘Magnificent 7’ was coined earlier this year by Michael Hartnett, investment strategist at Bank of America. He highlighted how the seven largest companies in the S&P 500 had driven most of the index returns so far this year. From AI tailwinds to regulatory headwinds, they have captured the headlines.
Apple, Microsoft, Alphabet, Amazon, NVIDIA, Tesla, and Meta represent over 28% of the S&P 500 Index. We would have to go back more than 100 years to find a period with higher concentration—when railroads made up more than 60% of the US stock market.
This isn’t an overnight success. They have all outperformed the index by 3X or more in the past decade.
In February 2013, CNBC's "Mad Money" host Jim Cramer introduced an acronym for stocks representing the future. He called them the FANG stocks (Facebook, Amazon, Netflix, Google) and suggested they had "the potential to really take a bite out of the bears." Since then, the acronym has evolved into many iterations, from FAANG (with the addition of Apple) to FAAMG, with Microsoft taking over Netflix. But the term 'Magnificent 7,’ inspired by the Western action film, could be here to stay.
According to the Goldman Sachs strategy team, these seven stocks haven’t been this cheap in six years from a forward price-to-earnings standpoint (assuming they’ll meet expectations). However, research has shown that mega-cap stocks can sometimes underperform relative to smaller stocks due to various factors, including less room for growth and increased scrutiny.
On the regulatory front, they are often considered modern monopolies. They all have government agencies going after them, from antitrust lawsuits to reviews of potential anticompetitive behavior.
With another earnings season on the horizon, let’s review the key takeaways of the previous quarter for all seven members of this group.
Are they poised for continued dominance?
How are these giants navigating their challenges?
Are there headwinds that might hinder their growth?
Today at a glance:
Apple: 1 Billion Subscriptions.
Microsoft: Data First, AI Second.
Alphabet: All Roads Lead To AI.
Amazon: LLM as a Service.
NVIDIA: In a League of Its Own.
Tesla: Supercharging The Future.
Meta: Open-source AI.
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As always with Apple, there is more to the story than initially meets the eye. The headlines too often focus on iPhone revenue.
From its record-breaking Services revenue to its rebound in China to its potential foray into AI, the tech giant remains a compelling story of resilience and evolution.
In Q2 FY23, Services accounted for 41% of Apple’s gross profit (+2pp Y/Y). It’s only a matter of time before Apple makes most of its gross profit from this segment. The company recently reached 1 billion paid subscriptions from an install base of 2 billion active devices.
Explore further details on Apple Savings, the challenges of a declining smartphone market, and the increasing importance of retention and brand switchers in our in-depth article.
As Microsoft CEO Satya Nadella points out:
“Every AI app starts with data, and having a comprehensive data and analytics platform is more important than ever.“
A successful AI strategy begins with a strong data strategy. In the article, we break down new initiatives that will impact future growth:
AI Copilot: Deemed the “third pillar” of the Productivity & Business Processes segment, joining creation tools and communication & collaboration services.
Bing Chat Enterprise: A chatbot for ultra-sensitive data.
Microsoft Fabric: A new end-to-end data and analytics platform that integrates with all Cloud Service Providers.
Cloud operations remain a cornerstone, though recent trends hint at a slowdown. And, of course, we have the pending blockbuster acquisition of Activision Blizzard still pending.
CEO Sundar Pichai reminded us that incorporating AI in Alphabet’s products impact billions of people. From Gmail to Photos to Android OS, all roads lead to AI.
The company saw its fastest revenue growth since Q2 FY22. The persistent strength of Search advertising, combined with standout performances from YouTube subscriptions and Cloud, caught the market’s attention.
In the ongoing antitrust case, Microsoft's CEO, Satya Nadella, testified that even Microsoft struggles to compete with Google's search dominance. Nadella suggested that Google's lead in this space could further expand due to AI-driven data advantages and a self-reinforcing flywheel effect.
The FTC (Federal Trade Commission) recently alleged that Amazon holds and abuses an online retail monopoly. It’s a long shot, but if the agency wins the case, it could be looking for structural relief, which would mean breaking the company up.
While Amazon significantly improved its free cash flow in Q2 FY23, Wall Street was primarily focused on the optimistic tone around a possible bottom for the workload optimization at AWS.
From Infrastructure to Models to Apps, AWS serves the three layers of the AI tech stack. The recent investment in AI startup Anthropic (up to $4 billion) shows that the generative AI battle is heating up.
Advertising accelerated to a 22% growth Y/Y and was the fastest-growing segment.
Subscriptions continued to grow at a double-digit rate. Amazon is expanding beyond its walled garden, with ‘Buy with Prime’ available to Shopify merchants. They are applying the AWS model to their logistic solutions, opening an even larger market.
NVIDIA delivered another banger with its Q2 FY24 earnings (ending in July 2023). CEO Jensen Huang ended the earnings call with a strong message for the market:
“The industry is simultaneously going through two platform transitions, accelerated computing and generative AI. Data centers are making a platform shift from general purpose to accelerated computing. The $1 trillion of global data centers will transition to accelerated computing to achieve an order of magnitude better performance, energy efficiency and cost.”
Data Center comprised 76% of revenue, with a surge in demand for generative AI and large language models (LLMs).
Three major customer categories are driving this growth:
☁️ Cloud service providers (CSPs): They contributed over 50% of Data Center revenue. All hyperscalers (Amazon, Microsoft, Google) are NVIDIA customers with strong demand for the flagship H100 data center GPUs.
💬 Consumer Internet companies: They were the second largest category. For example, Meta powers its Grand Teton AI supercomputer with H100 chips. AI helps increase time spent on Instagram and ad performance.
🗄️ Enterprise: Demand for AI and accelerated computing touches all sectors, from automotive to financials to healthcare. Everyone is getting an LLM. They get access to NVIDIA’s acceleration libraries, pre-trained models, and APIs.
Amid a challenging economy and a highly competitive EV market, Tesla strategically offered price cuts to adapt to shifting demand. However, this approach has resulted in a decrease in profit margins.
Elon Musk explained during the latest earnings call:
"The short-term variances in gross margin and profitability really are minor relative to the long-term picture. Autonomy will make all of these numbers look silly.”
The strategy is clear. Musk is willing to sacrifice margins today for improved margins tomorrow, primarily driven by software upsell. Tesla is still on track to produce 1.8 million cars in 2023, up from 1.3 million in 2022. So the growth trajectory is intact, albeit with thinner margins for the time being.
Several automotive companies like Ford and GM have announced they will adopt NACS—Tesla’s charging standard—for their North American products. This could accelerate the transition to EVs and boost the growth of Tesla’s charging network.
Meanwhile, Tesla crossed over 300 million miles driven by FSD (Full Self-Driving) beta. By early 2024, the company expects its proprietary supercomputer, Dojo, tailored for neural network training and enhancing autonomous driving algorithms, to rank among the top five worldwide in compute power. This leverages Tesla's data advantage with the FSD beta.
Facebook added 27 million Daily Active Users sequentially to its existing 2-billion-user base in Q2, indicating that user exodus has yet to materialize. Across the family of apps, Meta reached over 3 billion Daily Active People, good for 7% growth year over year.
Founder-CEO Mark Zuckerberg discussed the various ways the company could benefit from AI with its Llama model and shared his thoughts about Reality Labs for the long term. This vision became even more concrete at the recent Meta Connect event, where the company announced:
Meta AI: Chat-GPT-like assistants natively in Meta apps.
Meta Quest 3: The update of the VR headset (released on October 10) took center stage. The device will be critical because it’s the first big release in three years and will have a head start on Apple Vision Pro.
Ray-Ban Smart Glasses: These glasses allow users to livestream discreetly. More importantly, the glasses will have access to Meta AI, which could put computer vision to the test and offer a seamless integration of the AI assistants.
While Meta AI showcases the company's ambition to leverage its massive user base with integrated AI technology, the jury is still out on the success of its hardware initiatives. Product adoption has been timid so far, and there is no evidence this time will be different.
There will be much more to unpack with our review of the upcoming earnings. But don’t expect a significant contribution from RL (Reality Labs) yet. Management expects RL losses to expand meaningfully in 2024 with ongoing product development.
As always, stay tuned for dedicated articles in the coming weeks as the new earnings season unfolds. The focus will turn back to the fundamentals, with the market wondering if these market leaders can continue their track record of outperformance.
But don’t sneeze at the action in the courtroom. Many government agencies are going after these companies due to their size and reach. Regulators will have a critical role to play in how the stories of the ‘Magnificent 7‘ unfold.
Now let’s play a game. Everybody can vote, so chime in!
That’s it for today!
Stay healthy and invest on!
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Author's Note (Bertrand here 👋🏼): The views and opinions expressed in this newsletter are solely my own and should not be considered financial advice or any other organization's views.