Although there are a lot of ways to measure breadth, the fact that just 10 stocks accounted for the entirety (and then some) of the broader market’s gains in the first half of 2018 suggests that outward appearances notwithstanding, the U.S. equity rally rests on a shaky foundation.

Facebook’s dramatic week seemed to in part validate the concerns of skeptics who have variously (and in some cases vociferously) argued that a market predicated almost entirely on the assumption that a handful of names will deliver perpetually impressive growth that everywhere and always outruns consensus expectations is a dangerous market indeed.

(One more week of relative underperformance would make this the longest streak on record; h/t Luke Kawa)

Modern market structure helps to supercharge things. Although you can argue that mechanically speaking, flows into funds that track cap-weighted indices don’t drive up the heavyweights relative to the others, that’s a rather superficial way to look at things.

“Clearly with passive investing on the rise, more capital will flow into index constituents than into other stocks, and capital may flow out of the stocks that aren’t in indices in order to flow into those that are”, Howard Marks wrote in his latest memo adding that in that scenario, “it seems obvious that this can cause the stocks in the indices to appreciate relative to non-index stocks for reasons other than fundamental ones.”

Yes, that is obvious, Howard, but not to everyone apparently.

Equally obvious (if you care to spend a few minutes thinking about it), is that non-index passive products (e.g., smart-beta) do in fact drive a select group of names higher relative to other names. “The more a stock is held in non-index passive vehicles receiving inflows (ceteris paribus, or everything else being equal), the more likely it is to appreciate relative to one that’s not”, Marks wrote, in the same letter cited above. “And stocks like Amazon that are held in a large number of smart-beta funds of a variety of types are likely to appreciate relative to stocks that are held in none or just a few.”

That, in turn, recalls Goldman’s analysis from last summer, when the bank warned that tech was becoming synonymous not only with growth and momentum factors (nothing particularly noteworthy about that observation) but also with low vol. (that, on the other hand, is noteworthy). That suggests factor crowded.

(Equal-weighted Nasdaq fund relative to QQQ; green highlights mark late-March regulatory scare in big cap tech and this week, respectively)

All of the above raises questions about what happens to a market that’s heavily dependent on a small group of stocks which are themselves caught in a self-feeding loop. More to the point: What happens to the market if that loop reverses?

Seen in that context, Facebook’s plunge this week was particularly worrying.

“Not to get all preachy about market-cap weighting, but it is pretty nuts the impact Facebook’s decline has on the S&P 500 (bottom blue line) versus an equal-weighted version (white line)”, Bloomberg’s quant reporter Dani Burger wrote on Thursday morning, as Facebook careened lower.

(Bloomberg)

But as Goldman writes, in a note dated Friday, “even before the Facebook results, recent client conversations have focused on the increasingly narrow breadth of the equity market.”

Specifically, the bank updates their analysis with regard to just how much of the burden is being shouldered by the usual suspects, noting that “the top 10 contributors have accounted for 62% of the S&P 500 7% YTD return [and] of these 10 stocks, nine are technology or internet firms, [with] the Technology sector alone accounting for 56% of the S&P 500 YTD return (76% including Consumer Discretionary members AMZN and NFLX).”

(Goldman)

Goldman goes on to take a look at a fairly simple measure of market breadth which compares the distance of the S&P from its 52-week high to the corresponding distance for the median index constituent. “When only a small number of stocks act to lift the broad index, that gap turns negative and signals narrow breadth”, the bank writes.

(Goldman)

That doesn’t paint too dour a picture, but it’s not great either.

So what’s the good news? Well, the good news is that we’re in something of an anomalous environment thanks in part to the addition of fiscal stimulus to a late cycle expansion. Essentially, bad market breadth can be associated with worsening operating environments where investors are flocking to the last bastions of strength in terms of top and bottom line growth. This time around, that’s simply not the case. Here’s Goldman:

Unlike past episodes of narrow market breadth, the earnings environment today appears healthy and broad-based. The top 10 S&P 500 stocks currently account for 20% of index earnings, roughly the same as in each of the last few years, and slightly below the 30-year average of 21%. In 2019, consensus expects the median S&P 500 stock to grow EPS by 10%, slightly faster than the 9% growth expected for the index.

What then, accounts for the narrow market breadth? Well, the worsening outlook for global growth (and give me some rope on that – it’s not that the outlook is “bad”, per se, it’s just that it’s no longer as rosy as it was 9 months ago) and the prospect that rising trade tensions could make things worse.

“Investor concerns about global growth, including risks from trade conflict, help explain the unusual current combination of strong fundamentals and narrow market breadth”, Goldman reckons, before positing that while “elevated valuations discourage investors in many sectors, the momentum and strong secular growth profiles of the largest market leaders have continued to attract investor assets.”

Right. And it’s not entirely clear what market participants are supposed to think here. Larry Kudlow’s protestations notwithstanding, corporate management teams are concerned about the prospect for the tariffs to erode their bottom lines. This week alone, General Motors, Harley-Davidson, Whirlpool and a handful of other companies explicitly cited the tariffs on the way to explaining either earnings misses, guidance cuts or in some cases both. And now Facebook has disappointed.

It all seems like something of a noxious mix and one can’t help but wonder whether Trump tempted the market gods on Friday by taking the rather unusual step of holding a nationally-televised press conference to discuss a quarterly GDP print.