Cyclical shares propel stock market to latest milestone

Banks, manufacturers were among biggest gainers over past month.

  • By Akane Otani,
  • The Wall Street Journal
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Stocks’ latest records are a testament to one thing: Investors aren’t worried about a recession happening soon.

The Dow Jones Industrial Average (.DJI) topped 28000 in the very last minute of Friday’s trading session, capping off an otherwise quiet week with its first thousand-point milestone since July.

Much of the stock market’s dash higher in recent months has been powered by shares of economically sensitive companies like banks, manufacturers and oil producers. That rally, along with the relative underperformance of traditionally safe sectors like utilities and consumer staples, has suggested that money managers are turning more optimistic about the economic outlook.

Morgan Stanley (MS), Bank of America Corp. (BAC) and BlackRock Inc. (BLK) shares have each added at least 5% in November. Their gains have far outpaced that of the S&P 500 (.SPX), which has risen 2.7%. Other economic bellwethers have also taken off, with Caterpillar Inc. (CAT) and Boeing Co. (BA) both up at least 5% for the month.

Investors say the gains reflect faith that the U.S. economy, while undoubtedly slowing, isn’t about to tip into recession.

Data over the past several weeks have largely reassured money managers. A Labor Department report at the start of the month showed the economy added 128,000 jobs in October, far more than analysts had expected given a now-concluded nationwide General Motors Co. (GM) strike that cut into manufacturing hiring. Retail sales rebounded in October after a surprising decline in September. Corporate earnings for the latest quarter have also been better than many analysts had feared.

Next week, investors will get a look at minutes from the Federal Reserve’s last policy meeting, as well as a gauge of consumer sentiment and manufacturing activity.

“I’m not going to say the economy’s going to boom, but it should start to pick up,” said Jay Hatfield, chief executive and portfolio manager at InfraCap, a company that manages exchange-traded funds and hedge funds.

Mr. Hatfield said his company has been betting that financial stocks, preferred stock and other generally risky investments will perform well, especially if weaker parts of the global economy, like Europe and parts of Asia, show signs of improvement.

“We think we’re still far away from a recession,” he said.

Mr. Hatfield isn’t alone.

Fund managers world-wide are holding the lowest level of cash in their portfolios since June 2013, a Bank of America survey conducted between Nov. 1-7 found. They have also scooped up more shares of banks and European stocks. Both groups lagged behind the broader market earlier this year, when fears about U.S.-China trade tensions sent investors out of risky assets.

As investors have grown less fearful of a downturn, one of the most persistent warning signs of a recession in the bond market—the yield curve—has also eased. Shorter-term bond yields have fallen below longer-term ones, reversing a pattern set earlier in the year that had worried some investors.

Still, money managers acknowledge that many of their bets could fall apart if the U.S. and China move away from a trade deal.

The two countries reached a tentative truce in October, when China agreed to purchase tens of billions of dollars of American farm products and the U.S. said it would forgo a planned increase in tariffs. But progress since then has appeared to stall. President Trump said Nov. 8 that the U.S. hadn’t agreed to roll back tariffs as part of an interim deal, contradicting a statement released earlier in the month by China’s Commerce Ministry.

More than a third of fund managers say the trade war poses the biggest risk to the markets, according to Bank of America.

But for now, there is no sign that investors are positioned for a sharp contraction.

While prior escalations in trade tensions have sent investors rushing out of cyclical shares, many such sectors are outperforming the S&P 500 for now. The KBW Nasdaq Bank Index, for instance, has logged a 26% gain year-to-date, compared with the S&P 500’s 24% rise. The S&P 500 industrials sector is also outperforming the broader market, up 28% so far this year.

In another sign of investor confidence, bond yields have bounced off the multiyear lows they hit earlier in the year.

Garvin Jabusch, chief investment officer at Green Alpha Advisors, said pullbacks in the market are an opportunity to scoop up relative bargains. That is because, like many other money managers, Mr. Jabusch—whose funds include shares of semiconductor companies like Lam Research Corp. (LRCX), Qualcomm Inc. (QCOM) and Applied Materials Inc. (AMAT) —believes the U.S. economic expansion still has room to run.

On trade, “I think cooler heads will prevail,” Mr. Jabusch said. “I’m still an optimist.”

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