Merck (MRK) might not seem like an exciting stock. Its earnings per share are expected to rise just 7.5% in 2019. But Merck stock has been a big winner over the past year, gaining nearly 50%. It was the top performer in the Dow Jones Industrial Average (.DJI) last year. And many fund managers now view it as a bargain. Merck was one of the most popular fund additions in the fourth quarter, moving from the 19th most popular stock up to 11th place, according to a report out Tuesday by RBC Capital Markets.
The report provides insights into stock ownership trends among actively managed large-cap mutual funds. And it offers up some suggestions for stocks to buy now—including stocks that may be in a "Goldilocks" zone for popularity.
As one might expect, most fund managers are heavily invested in tech. Microsoft (MSFT) retained its crown as the No. 1 stock, owned by 71% of large-cap funds. It joins other members of Big Tech in the top five, a roster that includes Alphabet stock (GOOGL), Apple stock (AAPL), and Visa stock (V), which is technically classified as an information technology stock. The lone non-tech stock to crack the top five was JPMorgan Chase (JPM). Perennial favorite Amazon.com stock (AMZN) moved up from 10th place to sixth place place, owned by 45% of funds.
Beyond the top five, large-cap managers took a shine to Intuitive Surgical (ISRG), the leading maker of robotic surgery equipment. The percentage of large-cap funds that were overweight on the stock jumped to 39% in the fourth quarter, according to RBC, up from 27% in the third quarter. That was the highest level of fund ownership for Intuitive since 2010. And managers who weren't in the stock missed out on big gains. Intuitive stock is up 29.6% over the past year, including a 14.8% gain in 2019.
Facebook stock (FB), meanwhile, continues to lose fans. It fell from sixth to 10th place in the rankings. Just 36% of funds were overweight on Facebook at the end of the quarter. That was the lowest level since 2012, and down from a peak of 71% in early 2016, the report says.
Facebook has battled concerns about its data-sharing and other corporate practices, and the stock has taken a beating, down about 7% over the past year. But Facebook stock is now mounting a comeback, up 27.7% so far in 2019. Barron's has viewed the stock positively, calling it a bargain in November when it traded around $132 per share—well below recent levels around $168.
One takeaway from RBC's report is that it usually pays to buy stocks that are in a Goldilocks zone for popularity: not the most heavily owned, but not the least popular either. It stands to reason that some stocks are popular for good reason—they have the underlying growth that many managers want. But the biggest crowd favorites may offer less upside potential because most managers already own large stakes, limiting the pool of potential buyers.
Indeed, one can view popularity as a contrarian indicator. All four baskets of the most heavily owned stocks have lagged behind the market in early 2019, according to RBC. And the most popular stocks haven't been the top performers. Since 2010, stocks in the second quintile of ownership (the second 20%, below the top 20%) have provided the best returns relative to the S&P 500 (.SPX). While it may seem obvious, "daring to be different" has granted long-term investors an edge, the report states.
So what are some less popular stocks to buy now? RBC's suggestions include cyclical stocks such as Charter Communications (CHTR), General Motors (GM), Marriott International (MAR), Dollar General (DG), and O'Reilly Automotive (ORLY). All are owned by less than 15% of funds and ranked in the second quintile of fund ownership since 2010. They're all rated Outperform by RBC analysts.
Among defensive stocks, RBC recommends Monster Beverage (MNST), Estee Lauder (EL), Anadarko Petroleum (APC), Concho Resources (CXO), and Vertex Pharmaceuticals (VRTX). None of these stocks are popular, owned by 10%-16% of large-cap funds. And all have ranked in the second quintile for ownership. RBC analysts rate them Outperform, however, expecting better days ahead.
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