Investing.com -- Big Tech stocks are now trading at their cheapest levels relative to the rest of the S&P 500 in six years, according to Goldman Sachs’ top strategist David Kostin.
The valuation premium of the “Magnificent 7” compared to the other 493 stocks in the index has dropped to the lowest point since 2018, despite continued earnings outperformance.
According to Kostin, the group now trades at a forward price-to-earnings multiple of 28, versus 20 for the rest of the S&P 500—a 43% premium that ranks in the 30th percentile relative to the past decade.
“The median Magnificent 7 stock currently trades at a modest valuation discount to what our cross-sectional valuation model would imply based on fundamental attributes such as earnings growth and balance sheet strength,” he said in a recent note.
The recent underperformance of the Magnificent 7 in share price terms has come even as their earnings results remain strong. Excluding Nvidia (NASDAQ:NVDA), which has yet to report, the group posted 28% year-over-year earnings per share growth in the first quarter, significantly above the 9% reported by the rest of the index.
Earnings beats also surprised by 16%, the largest since the second quarter of 2021.
Kostin expects the group to outperform in 2025, highlighting expectations of tepid U.S. economic growth over the next year as a key factor.
“Elevated interest rates will also place pressure on small- and mid-caps’ weaker balance sheets relative to large-caps,” Kostin added.
However, he believes the margin of outperformance is likely to shrink.
The strategist forecasts a narrowing earnings growth gap between the tech giants and the broader market, from 32 percentage points in 2024 to just 2 points by 2026. Still, he also notes that “consensus estimates showing a diminishing earnings growth premium for the Magnificent 7 may be proven wrong,” as past years have shown wider realized growth than initially expected.
At the same time, Kostin sees opportunity in mid-cap stocks over the longer term. “Despite a lackluster near-term setup for mid-caps, we still believe they represent an attractive opportunity for longer-term investors,” he wrote.
Mid-caps have historically delivered faster earnings growth and better performance than large-caps, and currently trade at lower valuations.