I wrote a while back about the risks retirees face when too much of the stock market becomes concentrated in a handful of companies. click here to read.
This isn’t a new phenomenon. Market leaders have always changed – from railroads and chemicals to autos, oil and telecommunications. Today’s market leaders will eventually change too.
But the current level of concentration deserves attention.
The ten largest companies now account for roughly half of the S&P 500’s market value and about 34% of its profits. That’s roughly twice their share of profits in the mid-1990s, when it was closer to 17%.
For retirees, that’s important because a large portion of their stock-market exposure is increasingly dependent on a relatively small number of companies.
Two recent articles in the Wall Street Journal and Barron’s raise another interesting question:
Are today’s extraordinary corporate profits as strong and sustainable as they appear?
Some profits aren’t coming from the businesses themselves
The Wall Street Journal recently pointed out something easy to miss when looking at corporate earnings.
Alphabet and Amazon, for example, own large investments in other private technology companies. When the value of those investments rises, accounting rules allow the companies to recognize those gains in their reported earnings even though they haven’t actually sold anything.
In the most recent quarter, Alphabet and Amazon reportedly recognized roughly $121 billion of investment gains.
For Alphabet, those gains represented about 71% of reported profit. For Amazon, they represented about 66%.
That’s significant!
It doesn’t mean either company’s underlying business is weak. Quite the opposite. Amazon’s revenue grew about 20%, while AWS (Amazon’s Cloud Business) grew about 37%.
The point is simply that reported earnings aren’t always the same thing as profits generated by selling more products and services.
That’s an important distinction when investors use earnings to determine what a company — or the entire stock market — is worth.
One company, $98 billion, and an outsized effect on the market
Alphabet illustrates just how much one company can influence the numbers.
Alphabet reported roughly $98 billion of gains from its equity investments in the second quarter, much of it unrealized — that is, gains “on paper.”
Its reported earnings were $9.11 per share. According to FactSet, without the investment gains, earnings would have been approximately $2.85 per share.
And because Alphabet is such a large part of the S&P 500, FactSet estimates that removing Alphabet would reduce S&P 500 earnings growth from 37.9% to 25.9%.
That’s an extraordinary influence from one company.
And there’s the AI question
The other issue raised by Barron’s is profit margins.
The S&P 500’s second-quarter net profit margin was approximately 15.7%, the highest since FactSet began tracking the data in 2009.
That’s impressive.
But there is an important question: how much of that improvement is sustainable?
AI could produce enormous productivity gains. If companies can produce significantly more with fewer employees and less cost, that’s genuine economic progress.
But AI also requires enormous amounts of investment.
Investors eventually need to know whether the additional profits created by AI will be large enough to justify all that spending.
We don’t know the answer yet.
Why S&P 500 concentration risk matters for retirees
Put all of this together and you get an interesting picture:
- The stock market is highly concentrated.
- A relatively small number of companies generate a very large share of its profits.
- Some reported earnings are coming from investment gains rather than the underlying businesses.
- Profit margins are at record levels, but we don’t yet know how sustainable they are.
- AI could dramatically increase productivity — but it requires enormous investment.
- Investors are paying high prices for today’s earnings.
None of this means the S&P 500 is a bubble.
It simply means the headline earnings numbers deserve a little more scrutiny.
And that’s particularly important for retirees.
The retiree’s alternative
For someone still accumulating wealth, a temporary 30% or 40% stock-market decline may be painful but manageable.
For someone living off a portfolio, it’s different.
A large decline early in retirement can permanently damage a portfolio especially if you are withdrawing money while the assets are falling.
That’s why retirees should ask a slightly different question than younger investors:
“What am I being paid to take stock-market risk?”
Today, high-quality investments such as Treasuries and Corporate Bonds can potentially generate 5–6% yields with considerably less equity-market risk than the S&P 500.
That changes the equation.
If you can earn a reasonable income from high-quality assets while taking less risk, stocks have to offer enough potential upside to justify their higher volatility and valuation.
The bottom line
The issue isn’t whether retirees should own stocks.
They probably should.
The issue is whether retirees should blindly assume that today’s exceptional earnings growth, record profit margins and dominant mega-cap companies will continue indefinitely.
History tells us that market leadership changes.
For retirees, the goal isn’t necessarily to capture every last dollar of upside.
It’s to generate dependable income, preserve capital and avoid a devastating loss at the wrong time.
When today’s safer alternatives are paying considerably more than they did a few years ago, that’s worth considering before putting too much of your retirement portfolio into an increasingly concentrated stock market.
For retirees, risk isn’t just losing money. It’s losing money when you can’t afford to wait for it to come back.
For more information on Income Investing – check out our series at Here
Disclaimer: This post is for informational purposes only and is not financial, investment, legal, or tax advice. It doesn’t create an advisor-client relationship. Data and opinions are current as of publication and subject to change — verify anything important before acting. Investing involves risk, including loss of principal. Consult a licensed professional about your own situation before making financial decisions.
