Equity investors have ultimately been enjoying a period of pretty strong returns recently, with markets up around 11% per annum in the last five years, well ahead of their long-term average of around 8% per annum. But this strong period of returns is really masking quite a lot of challenges that investors have been facing in that time, with lots of volatility, but the key challenge that investors are really talking about today right now is market concentration.
For example, the top five companies in the S&P 500 represent around 30% of the capital of that index today. That eclipses previous peaks, dot-com bubble, and, of course, the Nifty 50 in the '70s. So market concentration is a real problem, and if we zoom out and look globally, the average size of a position in a global index is about point north 0.03%.
The largest stocks in that index are around 130 times bigger, so you have this enormous skew towards a very small number of very large companies in the index and a long tail of thousands of companies that are tiny in their allocations. What this means is whilst passive investors have been enjoying low costs and reasonably good returns if they've been fully invested for that period, they are now increasingly exposed to a small number of companies that are a key driver of their returns.
Just in the first six months of this year, the largest five companies in the global index contributed more than 40% of the returns of the whole index. So this reliance on a small number of companies is becoming an increasing problem. The second issue is volatility. We've definitely experienced bouts of volatility recently, with the VIX jumping up from near its lows to near its highs in a very, very short period of time.
But what we're also seeing a lot of is charts comparing the size of some of these largest companies to the size of total stock markets of individual countries. So, for example, compare Apple or Nvidia to the size of the UK market or the Germany market or the Canadian market or Australian market. And you can see that these companies are now bigger than whole stock markets.
Now, if the whole stock market, like the UK market, went down 10% in a day, that would be a very rare event. It would get a lot of attention. It would have a big impact around the world.
But companies like Nvidia go up and down 10% relatively often, frankly, in a day. So the volatility you're seeing in these companies that are larger than the stock markets of these countries is a significant risk for investors. If we move away from passive investors in the index and think about active management, index concentration is also a problem.
But really it's rising concentration that has been the key risk for active investors. It's when the biggest stocks in the index keep getting bigger. That makes it very difficult to keep up with those index returns when those small number of companies have been such a key driver.
It ultimately means you have to be very concentrated in a small number of companies as an active investor in order to outperform. If we look at the number of managers outperforming the benchmark over time, it's definitely been decreasing on average over the last few years, as index concentration has been rising. Now, of course, it varies, but that's an interesting trend.
When we think about active managers. What's also really important to understand is that they go through cycles. They go through phases where their investment approach is in favor or out of favor, and these can last for a few years.
So right now, you've definitely got managers that are more exposed to these large growth companies that have been outperforming. But if we look at discreet three-year periods where if we look at which managers are in the top quartile of performers in this three-year period, do they remain in the top quartile in the next three-year period? And the answer to that study is that, actually, the vast majority of them do not. About 3/4 of them fall out of the top quartile over the next three-year period.
If we extend that longer and just ask, how many top quartile managers stay top quartile over an extended period of time, over multiple periods, it drops to zero really, really quickly, no matter what your starting point is. So what this tells us is that individual managers have investment styles that come and go in and out of favor, and therefore having exposure to one style of investing that's the flavor of the month at the moment is a risky strategy for investors because it's going to create volatility and periods of underperformance that people find difficult to handle.
At WTW, the way we think about dealing with some of these challenges is to have a diverse portfolio, a multi-manager portfolio where we can use diversity to blend away some of these investment styles that lead to these periods of outperformance and underperformance of individual managers. We think by blending lots of managers together of different styles, we can make a portfolio that does not have exposure to these big factor swings that drive these periods of out- and underperformance and instead deliver value through the stock selection skill in aggregate of our portfolio of managers.
Further, we'd like to have concentrated portfolios. We think the combination of concentrated portfolios where we can maximize the skill set that these managers have in picking stocks, together with blending a diverse set of these managers together, gives you the best, ultimate portfolio in terms of stock selection skill to drive returns and diverse set of managers to help you manage risk through volatile market environments.
If you'd like to hear more about how we invest at WTW and our equity strategies, please get in touch with myself or the team here, and we'll be happy to discuss this with you further.
