By Frances Yue
Stock-market concentration is hardly just an issue in the U.S.
Taiwan and South Korea, which together made up about a quarter of the MSCI Emerging Markets index two to three years ago, now account for over half.
Worried that the red-hot artificial-intelligence trade has made the U.S. market too top-heavy? There’s some bad news if you’re thinking about looking abroad instead.
In many foreign markets, concentration – where a handful of stocks account for an outsize share of total market capitalization – is even more extreme.
For investors seeking diversification abroad, the numbers may be surprising. The chart below shows the share of each country’s equity benchmark comprised of its 10 largest companies, with data that are accurate as of June 15.
In the U.S., the 10 biggest companies account for 36% of the S&P 500’s SPX market capitalization. That actually puts it near the lower end of the spectrum; in many overseas markets, the top 10 companies make up 70% or more of the benchmark.
That matters for emerging-market investors in particular. Strong performance in the EM space has increasingly been driven by a handful of stocks trading in Taiwan and South Korea, which play host to some of the world’s most influential AI hardware companies.
Those markets dominate key parts of the AI supply chain, including semiconductors and memory chips, which have benefited from the rush to build data centers and train more powerful AI models.
In emerging markets, stock-market performance has been “more narrow than the U.S. rally,” said Michael Mortimore, partner at NS Partners, during an interview with MarketWatch.
That concentration is showing up in benchmarks. Taiwan and South Korea, which together made up about a quarter of the MSCI Emerging Markets Index two to three years ago, now account for more than half, Mortimore noted in a phone interview. The index also had a 45% weighting toward information-technology stocks as of June 30, compared with 37.1% for the S&P 500 as of Monday, according to FactSet data.
That means that for the first time in recent memory, emerging markets are even more heavily weighted toward tech stocks than the U.S.
For everyday investors, the risk here is that diversifying away from the U.S. might not be having its desired effect. Many buy international or emerging-market funds to reduce their dependence on U.S. tech stocks. But after the AI-driven surge in several favored stocks, those funds may carry a much larger bet on chips, memory and data-center spending than investors realize – just as questions are growing over how long the AI boom can keep delivering for investors.
Why this has happened
Part of the concentration reflects a shift in the macro backdrop, Mortimore said. Last year, emerging-market stocks rallied more broadly, helped by a weaker dollar DXY and lower bond yields. This year, the dollar has strengthened, helping to sap some of the strength from the broader EM space. That has helped create a setup where a small group of AI firms have dramatically outperformed.
Since the Iran war started on Feb. 28, the dollar, U.S. Treasury yields BX: TMUBMUSD10Y and oil prices (CL00) (BRN00) have all moved higher, creating headwinds for many emerging markets, Mortimore noted. India is one example of a market that is sensitive to this, which is why shares traded there have come under pressure.
At the same time, the AI capital-spending story has continued to surpass investors’ expectations.
“Those markets have faced broad headwinds, but the AI capex story keeps booming and exceeding expectations,” Mortimore said. “For the last few months, it has looked to investors like the only game in town.”
A global bubble?
The strong performance of AI-related names has fueled bubble fears in the U.S. and around the world. But Mortimore was reluctant to label the emerging-markets AI trade as a bubble.
Despite the sharp rally in EM stocks over the past year and a half, valuations have actually come down, he said. That makes the current environment look less like a classic valuation bubble.
“We’re really reluctant to use the B-word right now,” Mortimore said.
Instead, an earnings boom appears to be the main driver.
That doesn’t mean Mortimore is exactly comfortable with where things stand today. But he noted that the current setup in markets is more akin to the mining supercycle of the early 2000s, when China’s growth fueled years of demand for commodities and boosted shares of companies such as Rio Tinto (RIO) and BHP (BHP).
Angelo Kourkafas, senior global strategist at Edward Jones, echoed that point. The almost parabolic moves in parts of EM equities have been driven by earnings, as strong demand has collided with shortages and supply has struggled to catch up, he said in an interview. Unlike a classic tech-bubble situation, investors do have earnings support, as forward 12-month earnings-growth expectations for emerging markets are around 50%, he added.
But that doesn’t mean there aren’t risks. Kourkafas said that he is watching for signs of excessive speculation in the AI space. Recent examples include signs that investors are borrowing money, or using leveraged ETFs, to chase the AI rally.
Because so many investors have crowded into the trade, stocks could become vulnerable if the pace of AI spending growth starts to cool, even if it continues to move in the right direction. For Mortimore, the most important question is whether the application layer of AI can generate enough returns to justify the enormous amounts of money pouring into the hardware layer.
“The fundamentals, the demand coming through at these bottlenecks – whether it be memory or cooling or networking – they’re real,” Mortimore said. But companies still need to generate enough profits from AI to justify that spending, he added.
Investors should also watch for signs that supply is catching up with demand, according to Mortimore. New capacity or new competitors entering the market could suggest the AI hardware boom is moving into a later stage – one where pricing power starts to fade and margins come under pressure.
What to do
One way to reduce concentration risk is to look at equal-weighted exposures, according to Richard Flax, CIO at Moneyfarm.
Investors could also look at emerging-market indexes that exclude South Korea if they specifically want to reduce exposure to that country’s red-hot market – though there is a cost to being wrong if those stocks keep climbing higher, he noted.
Meanwhile, Kourkafas suggested a “barbell” approach: Investors can keep some AI exposure through U.S. and EM equities, while adding exposure to areas such as Europe, Japan and U.S. midcap stocks, which have more exposure to industrials, financials and other more cyclical sectors.
He said investors could make room for such a shift by reducing overweight positions in traditional defensive sectors, which tend to lag when the economy is still expanding and a bull market remains intact.
-Frances Yue
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07-07-26 1759ET
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