Income Builder Model Portfolio

Monthly Portfolio Review: December 2024

Publication date: January 3, 2025

Current portfolio holdings

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Executive summary

• The Income Builder portfolio delivered a total return of -8.0% in December.

• The Fed projected fewer rate cuts in 2025 than previously expected, which especially hurt stocks in interest rate sensitive sectors.

• The S&P 500 was down 2.4%, thanks to good performance from a handful of mega-cap tech stocks. The average S&P 500 stock saw much more significant declines.

• Despite the setback, the Income Builder portfolio continues to outperform the S&P 500 on a six-month basis and since inception.

• An increasingly concentrated U.S. stock market has implications for dividend-oriented investors, who must be increasingly selective.

• We remain confident in the long-term business prospects of our holdings and view the interest rate-driven pressure on share prices in December as a buying opportunity.

Performance review

The Income Builder portfolio delivered a total return of -8.0% in December, while the S&P 500 Index returned -2.4%. For the six months ending December 31, 2024, the portfolio generated a total return of 12.2%, versus 8.4% for the S&P 500 Index.

The top performing stocks in the portfolio in December were Kinder Morgan (KMI), which returned -3%; Carlyle Group (CG), which returned -5%; and Sempra (SRE), which returned -6%.

The worst performing stocks in December were Crown Castle (CCI), which returned -13%; Blackstone (BX), which retuned -10%; and VICI Properties (VICI), which returned -9%.

A challenging month for most stocks

December 2024 was a difficult month. Although the S&P 500 Index delivered a relatively modest decline of 2.4%, this masks a much more negative result for most stocks.

The S&P 500 Equal Weight Index declined 6.3% in December. The standard version of the S&P 500 Index is market capitalization weighted, which means the most highly valued companies have the largest impact on index returns. The equal weighted version attributes the exact same portfolio weighting (0.2%) to all 500 stocks.

The S&P 500 Equal Weight Index therefore represents the average stock in the index.

The reason the market cap weighted index outperformed so significantly is that a handful of mega-cap names did extremely well. Meanwhile, approximately 90% of the stocks that are included within the S&P 500 produced negative returns.

Over long periods of time, the two versions of the index actually tend to deliver similar results. Looking back over the 20 year period ending November 30, 2024, the equal weighted index only slightly lagged the market cap weighted index.

From 11/30/2004 through 11/30/2024, the S&P 500 Equal Weight Index delivered a compounded annualized rate of return of 10.48%, versus 10.67% for the standard S&P 500 Index.

The nearly 4% difference in returns between the two indices in December is relatively extreme but is a continuation of a pattern that emerged in mid-2023.

The main driver of the performance divergence over the past year or so has been NVIDIA (NVDA), which produced a 171% total return in 2024. NVDA ended the year with an approximately 7% weighting within the S&P 500 Index, just behind Apple (AAPL).  

Interestingly, NVDA took a back seat to other mega-caps in December and was not an important factor this time. NVDA shares fell approximately 2.9% in December.

Instead, three other mega-cap stocks were particularly relevant this month.

Broadcom (AVGO), a leading player in semiconductors which now has a $1 trillion market cap, advanced 43%. Tesla (TSLA), which has a $1.3 trillion market cap, rose 17%. Alphabet (GOOGL), the parent company of Google with a $2.3 trillion market cap, rose 12%.

All three stocks rallied on the heels of positive news flow related to AI growth. In other words, there were company-specific catalysts that drove upside in these stocks.

Since these three stocks now collectively represent more than 8% of the index, their strong performance had a material effect on total index returns.

Concentration within the S&P 500 Index has reached historically extreme levels. This has many investors concerned, in part because the last time we saw this was right before the dot com bubble burst.

The top 10 holdings of the S&P 500 currently represent nearly 40% of the total index; this figure was closer to 30% at the peak of the dot com era in 1999. The top 20 holdings of the 500 stock index represent almost 50% of the total value.

All but one of the top 10 holdings within the S&P 500 are technology or technology platform stocks. The lone exception is Warren Buffett’s conglomerate Berkshire Hathaway (BRK/B), which ranks tenth.

Buffett is known as an old school value investor, but ironically, his large and highly successful investments in tech stocks like AAPL are a major reason BRK/B is now a top 10 name in the S&P 500.

Without diving into the controversy around whether or not we are in bubble territory when it comes to these mega-cap tech names, we continue to believe most stock market investors have plenty of exposure to them through index funds and active funds that track major indices.

We therefore continue to believe stock pickers should focus their attention on opportunities outside these widely held names, many of which do have quite rich valuations.

What happened to the rest of the market?

As a reminder, November produced a very strong month for stocks in the wake of Trump’s victory and the Republican sweep of Congress.

In November, we saw strong positive performances across the market. The S&P 500 returned 5.9%. The Russell 2000 Index, which tracks small-cap stocks, advanced 11%.

This post-election optimism shifted abruptly on December 19, after the Federal Reserve meeting. Although the Fed did cut the Fed funds rate by 25 basis points, which was widely expected, the anticipated trajectory of future rate cuts changed.

Official projections for the Fed funds rate by end of 2025 were raised approximately half a percent, from 3.4% to 3.9%.

The prospect of potentially stickier inflation and tighter monetary policy dampened market sentiment, just as much of the professional investment industry was preparing for year end and time off for the holidays.

Over the course of December, the yield on the 10-year Treasury rose back to the 4.6% range, just about hitting April 2024 peak levels, after having started the month around 4.2%.

Concerns around interest rates led to widespread selling pressure. This was felt across most sectors.

Source: FactSet

The areas most impacted by the unexpected Fed pivot were cyclical sectors, like Industrials, Energy and Materials, and interest rate sensitive sectors, like Utilities and Real Estate.

Cyclicals traded off on concerns that higher rates could depress economic growth, while rate sensitive stocks priced in a marginally higher cost of capital.

The performance of stocks in December should also be seen in the context of a year that produced very strong returns. The S&P 500 ended the year up 25%.

The final weeks of the trading year often involve some degree of turbulence.

Many investors sell losing positions to realize tax losses. Some fund managers engage in “window dressing” (buying high performing stocks and selling poor performers). Hedge funds and traders take off risk.

Market liquidity also tends to dry up as we enter the holiday season.

What’s next?

While frustrating, the December reversal in the share prices of the vast majority of stocks can be seen as an opportunity.

All else being equal, easier monetary policy and lower interest rates are better for stocks than tight monetary policy and high rates. But easy monetary policy is not normally associated with a strong, growing economy.

To a large extent, the Fed anticipates a slower trajectory of rate cuts because it perceives a relatively healthy growth outlook and, importantly, less recession risk.

The market narrative has quickly shifted from optimism around the benefits of lower taxes, deregulation, greater energy production and leaner government to disappointment over less aggressive rate cuts going forward.

As a result, while a handful of mega-cap tech stocks have retained some momentum, many stocks can now be purchased at prices that are lower than where they were trading before we knew the outcome of the election.

The S&P 500 Equal Weight Index was actually slightly lower as of December 31, 2024 versus where it was on October 31, 2024, a week before the election.

Selected Stock Indices (10/31/2024 - 12/31/2024)

Anxiety around the trajectory of interest rates has taken some steam away from markets, but we continue to have a constructive outlook.

With the markets now having priced in a materially higher rate environment, we are optimistic that we can expect another year of solid performance from our portfolio holdings as the incoming administration implements its pro-growth agenda.

Portfolio highlights

December 2024 was the worst monthly performance for the Income Builder since we launched—in both absolute and relative terms. Despite the setback, the strategy is still outpacing the S&P 500 on a six month basis (12.2% versus 8.4%) and since inception (19.0% versus 16.8%).

The best performing stocks within the portfolio in December were Kinder Morgan (KMI), which delivered a -3% total return; Carlyle Group (CG), which delivered a -5% total return; and Sempra (SRE), which delivered a -6% total return.

The worst performing stocks were Crown Castle (CCI), which returned -13%; Blackstone (BX), which retuned -10%; and VICI Properties (VICI), which returned -9%.

There were few company-specific factors that drove performance in December. The main variable was the sharp move in interest rates.

As an income-oriented strategy, the Income Builder is inevitably going to be more sensitive to movements in interest rates because of its exposure to sectors that support higher dividend yields, such as real estate, utilities and infrastructure.

Companies within these sectors have business models based on recurring cash flow streams. As long-term interest rates move up and down, markets adjust their valuations to take into account changes in the cost of capital.

Energy is another high dividend yield sector that is well-represented within the portfolio.

Energy stocks are not as inherently sensitive to interest rate shifts but tend to be sensitive to shifts in the growth outlook, which also get reflected in oil prices.

Energy stocks were relatively weak in December as investors reacted to the upward pressure on rates as a potential signal of slower growth and therefore lower energy demand ahead.

The disappearing dividend

As mentioned previously, the top 10 holdings of the S&P 500 Index now represent nearly 40% of the index. A concentrated market has implications for dividend investors as well.

The highest dividend yielding stock among the top 10 has a 1% yield. Eight of the top 10 stocks have a dividend yield between 0.0% and 0.5%.

The dividend yield of the S&P 500 Index now sits at 1.3%, versus the 4% weighted average dividend yield of the Income Builder.

As the universe of stocks with meaningful dividend yields dwindles, selectivity becomes even more important. Our goal remains to deliver the highest quality long-term dividend opportunities that the U.S. equity market has to offer.

December’s sharp upward move in interest rates had a larger impact on our portfolio than the tech-heavy S&P 500 Index. We remain confident in the long-term business prospects of each of our holdings, which can now be purchased at slightly reduced prices.

Key metrics

Valuation detail

Performance detail

Company snapshots

Blackstone (BX)

Crown Castle (CCI)

Digital Realty Trust (DLR)

Diamondback Energy (FANG)

Texas Instruments (TXN)

VICI Properties (VICI)

Williams (WMB)

Carlyle Group (CG)

Kinder Morgan (KMI)

Mid-America Apartment (MAA)

Permian Resources (PR)

Sempra (SRE)

WEC Energy Group (WEC)

The 76research Income Builder Model Portfolio is intended for income-oriented investors and managed to generate an overall yield that is materially higher than broad equity indices. The portfolio primarily includes stocks with above average dividend yields from a cross section of industries. While investments are screened for their income and income growth characteristics, specific holdings are chosen based on valuation and general business quality, growth and risk considerations.

Disclaimer

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