Tech will be changing the S&P rankings

Many will argue that this ruthlessness in the life expectancy of companies is exactly what the market system is designed to do, but it undoubtedly raises questions for investors.

According to Innosight, the average tenure of an S&P 500 company has been reduced from a 33-year average in 1964 to a projected 12-year average by 2027.

Key points

• Many of the S&P 500 companies will be replaced over the next 10 years
• In many of the successful tech companies, the founders are still present and heavily involved
• The challenge for investors is to spot the trends of the future

Much of this decrease in the average lifespan of a S&P 500 company is being driven by technological change, which is happening at unprecedented speed.

Data from the US Census Bureau suggests, not surprisingly, that ecommerce sales as a percentage of total retail sales in the US rapidly increased this year, with a significant spike during the Covid-19 pandemic.

The table illustrates the current top five businesses by market cap in the S&P 500 and the number of years since they were founded. Three of these businesses have been created in the space in the past 26 years.

Source: S&P data as at 26/8/2020

It is quite incredible for a company to go from conception to one of the biggest companies on the planet in such a short period of time.

In all but the case of Apple, the original founders are still alive, and many are still running or actively involved with the businesses they founded.

Facebook chief executive Mark Zuckerberg is only 36 years old. This trend for rapid growth looks set to accelerate as technological advancement grows exponentially.

But what does this acceleration in change mean for investors? The trend presents itself two-fold, both in opportunities but also great dangers.

Opportunities

The pace of this change means there could be opportunities for investors to make large capital gains in an incredibly short period of time in a historical context, if they are able to determine and target particular themes and trends.

The speed at which companies can amass a global customer base has never been faster due to the ability to gather customers online, with huge companies such as Zoom being created in years, not decades.

Many will argue that a great deal of this wealth was created before these businesses became publicly listed on stock exchanges, meaning ordinary investors have missed out.

This is partly true: many companies are now finding it easier to raise money privately and are waiting longer to go to public markets, but there have been some great success stories such as Facebook –the company is now in the top five of the S&P 500 and has seen a meteoric share price increase since its initial public offering back in 2012.

There are also many UK-listed companies that have created enormous wealth for those investors savvy enough to spot previous trends. In particular, the shift to online selling has been enormously rewarding for investors.

Ocado was for many years seen as an overvalued delivery business, but it has now reinvented itself as a technology company operating advanced warehouses using robots and artificial intelligence and licensing this technology to partners globally.

It has also seen massive demand for its food delivery services during lockdown, particularly through its deal with Marks and Spencer. Investors that spotted this trend to food home delivery years ago have been handsomely rewarded.

Another example of a big historical shift was that of property sales advertising, from newspaper print and estate agents’ windows to online portals such as Rightmove.

The advantages were huge: estate agents could now market properties at the click of a button to potentially millions of buyers visiting Rightmove’s online portal every day. Again, those savvy investors that spotted and allocated capital to this trend have been rewarded.

Dangers

Yet this pace of change also presents dangers. Investors may hold businesses within their portfolios that are vulnerable to technological innovation – perhaps they find themselves on the wrong side of the trend to more digitalisation.

Many traditional retailers have found it hard to transition as new online businesses have sprung up quickly, taking market share.

Take GymShark for example, a company with a 1bn plus private valuation built solely through social media and a Shopify website. The business has grown without the need for huge amounts of capital.

The days when established retailers could monopolise the best High Street locations, thus picking up the prime footfall through financial muscle are over, while barriers to entry have crumbled.

The same can be said of a whole range of different industries.

Take television networks, a regulated industry that has been ripped apart by online streaming services running subscription models with no need for cyclical advertising revenue.

Innovation and technology are changing industries faster than ever before, and companies need to be on constant alert as new threats emerge.

The chart shows the historical share price of both ITV and Netflix. Both state they are competing for “eyes on screens”, but Netflix has been incredibly successful at creating or purchasing content that its subscribers can watch on demand, whereas ITV has been left struggling with falling TV advertising revenue severely damaging its business.

Long-term ITV investors have had a horrid time of late, but the seismic shift that has upended ITV’s business model did not emerge overnight.

This is why companies and investors must be aware of emerging threats.

The disruptive decacorn

Many will have heard of the term ‘unicorn’ being used to describe a privately held company with a valuation of $1bn (£756m) or more.

Now, due to the amount of privately owned businesses with even larger valuations, the term ‘decacorn’ had been used to describe businesses that have been valued privately at more than $10bn.

Epic Games ($15bn), Space X ($33.3bn), Stripe ($36bn) and Airbnb ($18bn) are all current well-known decacorns, many of which have openly discussed plans for an IPO in the near future.

These businesses have the ability to disrupt some of the current established S&P 500 cohort and could be the S&P giants of the future, again presenting opportunities to gain from them when they list publicly, but also presenting threats to the established companies in sectors that they would seek to disrupt.

To conclude, it is important that investors examine their portfolio and what the longevity of the businesses they hold may be.

Do they hold companies positioned well to take advantage of this acceleration in technology to grow revenues and profits? Or does their portfolio consist of a holding that could struggle in the decades ahead?

This is where active investment managers can add real value doing the detailed company and fund analysis on client’s behalf, seeking to spot the trends of the future for capital again and also analysing emerging threats to current holdings.

Josh Pond is a technical investment writer at Rowan Dartington