Should You Invest in the Largest Stocks?

By Schultz Collins Investment Counsel on August 18, 2023

In this month’s commentary, we examine the historical returns associated with the largest stocks in the market. 

As we have discussed previously, investors have a natural attraction towards the best performing individual stocks. As some stocks rapidly grow, a few become the largest companies when measured by market capitalization. Some investors take comfort in buying the largest companies believing their size represents a degree of security to their principal, and that past performance provides some assurance of future positive returns. 

When we talk about a company’s size, we are usually talking about its market capitalization. What is market capitalization? It is a simple calculation of the price per share multiplied by the number of shares outstanding. As the stock price increases, so does the company’s market capitalization.  

Company Size Measured By Market Capitalization 

Stock Price x Shares Outstanding = Market Capitalization 

For illustrative purposes only. Data provided by Dimensional Fund Advisors as of 7/28/2023 

So, what does history tell us about the success of investing in the top 10 largest companies? Prior to becoming the very biggest companies, the returns on the stocks of these companies can be quite impressive. However, not long after joining the top 10 largest companies, these stocks, on average, have underperformed the market.   

According to Dimensional Fund Advisors, from 1927 to 2022, the average annualized return for these stocks over the three years prior to joining the top 10 was almost 27% higher than the market. Three years after joining the top 10, these stocks, on average, underperformed the market. As time passed, the return gap widened to 1% per year after five years and 1.7% per year ten years out. 

It is tempting to look at previously very successful stocks and believe those same relative returns will continue into perpetuity. On average, history says otherwise.   

Kenneth Clift  

Director of Advisory Services and Co-Chair of the Schultz Collins Investment Committee.

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