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David versus Goliath: An analysis of 2020 stock market performance
19 Feb 2021
Dear investors,
In the past we have written a lot about how in 2020 it was very difficult for an equally weighted approach to keep up with the capitalization-weighted benchmarks. Now data for the entire year is available we are able to show numerically just how pervasive the outperformance of mega caps was during the year. We will try to illustrate this by calculating the performance contribution of the MSCI All Countries.
In short, a performance contribution dissects the return of the constituents of an index. In the simple example below, where the index is made up of 5 companies, we can see that Stock A contributed 5.25% to the total return of the index (= 10.50%). A contribution of a single company is calculated by multiplying the weight a company holds within an index with the return the stock earned over the holding period. The performance of the index can then easily be calculated by summing the contributions of its constituents.
Stock |
Weight |
Return |
Contribution |
Cumulative Contr. |
A |
35% |
15% |
5.25% |
5.25% |
B |
25% |
8% |
2.00% |
7.25% |
C |
18% |
5% |
0.90% |
8.15% |
D |
17% |
5% |
0.85% |
9.00% |
E |
5% |
30% |
1.50% |
10.50% |
We have done the same exercise, but on a much larger scale, for the MSCI All Countries. We calculate the weight of the constituents each month, multiply it with their monthly returns and sum over the twelve-month period. Using this method for 2020, returns sum to 7.1% compared to the 6.6% for the Net Return index, so the monthly approximation is pretty accurate. The graph below goes to show just how influential the global titans were, with the ten largest companies contributing 4.7% to the return of the index. Put differently, while the 10 largest companies - by their average weight over 2020 (*) - contributed 66% (= 4.7%/7.1%) to the index’s total return, the remaining 2490 were able to add just 34%!
In the following graph we allotted an equal weight to all of the index’ constituents. So, the weight of Apple, 3.3% on average during 2020, falls back to about 0.04% and the weight of the micro stocks actually increases from 0.01% to this same level. This time we show the contribution to the total return of the index on a relative rather than absolute level, which makes comparison of 2020 and 2021 data visually more appealing.
In this graph the cumulative contribution only increases on the merit of a stock’s return. If all stocks had identical returns then the cumulative contribution would be linear (grey line). It is clear that in 2020 the largest half of the stocks also had the best return, reaching a cumulative contribution of about 200%. The graph then stabilizes for a while only to drop precipitously towards the end. This implies that the remaining half consisted of the kind of apples you don’t want in your basket: these companies had neutral to extremely negative contributions to the index’s total return on average.
We hope this analysis shows that when your selection method was biased towards large caps in 2020, you were set up for success. Yet, while big tech got bigger, performance of mid-caps and smaller companies lagged substantially. While the capitalization weighted version of the MSCI ACWI invested only about 10% of its assets in smallest 1250 companies, stock pickers that opt to invest over the entire universe tend to end up allotting a lot more weight to these small to mid-caps. This has been punishing in the past, as large caps have been outperforming for a couple of years now, but never so painful as in 2020. In large part it explains why last year was so difficult for our funds.
All things change, however, and in 2021 we have seen the opposite happen (orange line on the graph). The large caps have contributed almost nothing so far, and the mid to small caps made a modest comeback. As we tend to focus more on the mid to small cap part of the index this has been a tailwind for us. Vector Navigator outperformed the index by about 2.5%. Vector Flexible had an even better month, outperforming the benchmark by 2.7%.
Best regards,
Werner, Thierry and Nils
^{(*) the conclusions remain unchanged when we sort stocks by their beginning or ending weight of 2020}