$SPY and the Concentration Conundrum: Navigating the Next Decade

The post financial crisis bull market in US equities has shown remarkable durability, persisting through a pandemic, a European energy crisis, and the most aggressive monetary tightening cycle in four decades. This resilience has emboldened narratives of a long-term, secular uptrend, with each downturn being merely a temporary pause before the next ascent. One popular framework for contextualising such long-term movements is Elliott Wave Theory, which posits that markets move in predictable, repetitive cycles of impulsive and corrective waves. While the theory’s predictive power is a subject of endless debate, its structure provides a useful vocabulary for discussing the psychological state of a market that continues to defy gravity.

Valuation, Concentration, and the Law of Large Numbers

Any sober assessment of the next decade must contend with two dominant market realities: elevated valuations and unprecedented concentration. The S&P 500 has been propelled higher by an increasingly narrow group of companies, leading to a situation where the index’s performance is largely dictated by the fortunes of a few technology titans. As of mid 2024, the top ten constituents of the S&P 500 accounted for over 34% of the index’s total market capitalisation, a level of concentration exceeding even that of the dot-com bubble in 2000.¹

This concentration amplifies the issue of valuation. While not at the euphoric peaks of 1999, key metrics suggest that future returns may be constrained. The Cyclically Adjusted Price-to-Earnings (CAPE) ratio, popularised by Robert Shiller, provides a sobering perspective by smoothing earnings over a ten year period. Its current level sits significantly above its long-term historical average, a condition that has historically preceded periods of lower, not higher, annualised returns.

Source: Data compiled from multiple sources including S&P Global and Multpl.com as of late 2024.

These figures do not guarantee an imminent collapse, but they do suggest that the phenomenal returns of the past 15 years are a statistical anomaly, not a new permanent plateau. The law of large numbers, if nothing else, makes it mathematically challenging for multi-trillion dollar companies to continue growing at rates that justify ever expanding multiples.

Projecting a Decade of Divergence

Forecasting a specific price level for an index like the SPDR S&P 500 ETF (SPY) ten years into the future is a fool’s errand. A more productive exercise involves outlining plausible scenarios based on the structural factors at play. The path forward is likely one of divergence, where the headline index may behave very differently from the median stock within it.

The Bull Case: A ‘Fifth Wave’ of Innovation

The optimistic scenario, which would align with the completion of a grand supercycle in Elliott Wave terms, rests almost entirely on the promise of artificial intelligence. Proponents argue that AI will unleash a productivity boom analogous to the internet’s arrival, justifying the high valuations of the market’s technology leaders. In this version of the future, earnings growth for the mega-cap cohort continues to outpace the broader economy, pulling the index higher despite sluggish performance elsewhere. This would require inflation to remain contained and monetary policy to become accommodative once more, providing the necessary liquidity to fuel further gains.

The Bear Case: A Lost Decade for the Index

A less sanguine outlook posits that the market is ripe for a significant period of mean reversion. This may not manifest as a single, dramatic crash, but rather as a prolonged period of stagnation for the market-cap weighted index. Potential catalysts are abundant: regulatory action against Big Tech, a failure of AI to deliver on its lofty productivity promises, sustained higher interest rates that compress valuations, or a simple rotation of capital into cheaper, neglected sectors of the market. In this scenario, the SPY could deliver near zero or even negative returns over a decade, much as it did from 2000 to 2010, even if the average S&P 500 company (as represented by an equal-weight ETF) performs reasonably well.

Conclusion: The Concentration Conundrum

Ultimately, the debate over the S&P 500’s next decade is less about predicting a specific price target and more about understanding its changing character. The index is no longer a diversified proxy for the American economy; it is a heavily concentrated bet on a handful of technology platforms. While frameworks like Elliott Wave Theory provide a tidy narrative for the past, they offer little certainty for a future dominated by such unique levels of concentration risk.

The most compelling hypothesis for the coming years is not whether a sharp, 20% correction is imminent, but whether the index itself is facing a structural challenge. If the mega-cap stocks that have driven its ascent begin to falter or merely tread water, passive investors in market-cap weighted funds may experience a long and frustrating period of underperformance. The great irony of the next decade could be a bull market in individual stocks that is entirely missed by an index held captive by its own largest constituents.

References

1. S&P Dow Jones Indices. (2024). Factsheet: S&P 500. Retrieved from S&P Global.