Why are 54% of US stocks down 20% as the S&P 500 nears a record high?

The United States stock market presents a stark contrast, as the S&P 500 inches closer to a record high, while over half of the companies within the broader US market have endured significant losses. According to Morgan Stanley, 54% of the firms in the Russell 3000 index have dropped at least 20% from their June 2026 peaks. Nearly 90% of Russell 3000 companies have seen declines of over 10% from their June highs, with 29% losing more than 30% of their value and a mere 7% experiencing a drop exceeding 50%.

The S&P 500 does not provide a comprehensive view of every stock's performance; it comprises 500 leading US companies, with greater weight given to those possessing larger market capitalizations. Consequently, a select group of major corporations can lift the index upward, even when numerous other stocks are declining.

Mike Wilson of Morgan Stanley notes that the percentage of S&P 500 companies trading above their 200-day moving averages has dwindled from roughly 75% to under 50%. The 200-day moving average represents a stock's average price over around 200 trading days, aiding investors in evaluating its longer-term trend. Despite fewer companies trading above their long-term averages, the S&P 500 has maintained proximity to a record high due to the robust performance of its largest constituents.

This narrowing market may serve as a cautionary sign, as a rally bolstered by only a few large stocks can persist for months without a sudden crash. However, the chasm could eventually narrow, either through struggling stocks rebounding or the dominant companies backing the index beginning to falter. Rising volatility in the bond market could exert additional pressure on stocks, potentially triggering a 5% to 10% decline in the S&P 500 according to Wilson. However, this is his perspective, not a confirmed prediction of the index's decline.

Investors are also scrutinizing the returns from investments in artificial intelligence. Many corporations have heavily invested in AI, and investors are increasingly questioning whether these investments will yield sufficient profits to justify their costs. Companies whose valuations hinge on high growth projections may face pressure should these expectations not be realized.

Some firms continue to display strong earnings despite falling share prices, as reported by Morgan Stanley, with the median company's earnings growth remaining in the mid-teens.

Further complicating matters, some companies face pressure from investors compelled to sell due to dwindling fund returns. Portfolio managers with underperforming investments may be compelled to divest shares to meet client withdrawals, potentially exacerbating the decline in share prices. Additionally, risk-management systems might compel funds to reduce exposure when market turbulence intensifies.

Morgan Stanley identifies potential investment opportunities in industrial stocks, citing attractive risk-reward profiles in select quality industrial companies whose share prices have weakened, despite maintaining reasonably robust earnings expectations. These businesses might have suffered due to higher interest rates, apprehensions about economic growth, and a prevailing preference for large technology companies among investors.

The performance of the largest stocks continues to pose a significant risk, as a handful of major corporations are perpetuating the S&P 500's near-record status. If these companies fail to meet investors' expectations, their share prices could plummet, exerting downward pressure on the entire index. As the market's leadership becomes increasingly concentrated, the S&P 500's performance becomes more dependent on the actions of these few firms.

The widening gap between the S&P 500 and the broader US stock market is a matter of heightened concern. While the S&P 500 approaches a record high, this does not necessarily signify that most US stocks are performing well. According to Morgan Stanley's data, 54% of companies in the Russell 3000 index have fallen at least 20% from their June peaks, leaving open the question of whether these stocks will recover or if the decline will extend to the large companies sustaining the S&P 500's proximity to its record high.