Our latest Quarterly Sector Update reveals that technology stocks continue to appear best-positioned among the 10 sectors. Click through the slides or watch the video (see right) to find out why.
What is Fidelity’s Quarterly Sector Update?
The Quarterly Sector Update, including the Sector Scorecard, represents input from three discrete Fidelity investment teams—each with its own unique insights about sector investing—to present a comprehensive view of the relative performance potential among the 10 major equity market sectors over a range of investment horizons.
The Sector Scorecard’s proprietary methodology measures the relative attractiveness of each sector against five key factors: business cycle, fundamentals, relative valuations, momentum, and relative strength.
Scorecard: Information technology signals remain positive
Broad U.S. stock market performance was positive in 2014, with utilities, health care, information technology, consumer staples, and financials generating double-digit returns. However, energy fell sharply as crude oil prices plummeted. Technology continues to show positive signals across the board, while energy, materials, and utilities appear relatively weak.
Past performance is no guarantee of future results. Sectors are defined by the Global Industry Classification Standard (GICS®); see additional information in the Appendix. Factors are based on historical analysis and are not a qualitative assessment by any individual investment professional. Green portions suggest outperformance, red suggests underperformance, and unshaded portions indicate no clear pattern vs. the broader market, as represented by the S&P 500 Index. Quarter-end and year-to-date performance reflects performance of the S&P 500 Sector Indices. It is not possible to invest directly in an index. All indexes are unmanaged. Percentages may not sum to 100% due to rounding. Source: Fidelity Investments, as of 12/31/14.
Business cycle: Mid cycle supports technology, industrials
The U.S. economy remains in a mid-cycle expansion, bolstered by an improving real income outlook for the U.S. consumer. Corporate fundamentals remain strong, and forward-looking indicators for manufacturing and capital spending remain in a solid uptrend, which should bode well for the information technology and industrials sectors.
Business cycle: Understanding where we are in the business cycle may help determine which sectors may outperform or underperform. Past performance is no guarantee of future results. LEFT: Indicates the current business cycle of the U.S. economy based on Fidelity's analysis of historical trends. This is a hypothetical illustration of a typical business cycle. There is not always a chronological progression in this order, and there have been cycles when the economy has skipped a phase or retraced an earlier one. See the latest Business Cycle Update for a complete discussion. Source: Fidelity Investments (AART), as of 12/31/14. RIGHT: Unshaded portions indicate no clear pattern of out- or underperformance vs. the broader market, as represented by the top 3,000 U.S. stocks by market capitalization. Double +/– signs indicate that the sector has shown a consistent signal across all three metrics: full-phase average performance, median monthly difference, and cycle hit rate (see Glossary and Methodology slide for definitions). A single +/– sign indicates a less consistent signal. Source: The Business Cycle Approach to Equity Sector Investing, Fidelity Investments (AART), September 2014.
Fundamentals: Industrials, IT strong on earnings, cash flow
Industrials and information technology have benefited from strong fundamentals over the past 12 months, including earnings growth and free-cash-flow margin. (Telecom earnings, while also higher, have been lifted by an industry accounting change.) Energy fundamentals have weakened from a sharp crude oil price drop, with more significant impact to come in 2015 results.
Fundamentals: Strong and improving fundamentals historically have been an intermediate-term indicator of sector performance. Fundamental analysis gives a view into how each sector is doing in terms of growth and profitability. EPS refers to earnings per share, the portion of a company’s profit allocated to each outstanding share of common stock. EBITDA is earnings before interest, taxes, depreciation, and amortization. The financials sector is not represented in the EBITDA growth or free-cash-flow margin charts. Source: FactSet, as of 12/31/14.
Relative valuations: Energy, technology appear cheap
Energy, which underperformed significantly in late 2014, appears cheap based on valuation metrics, although deteriorating fundamentals will likely further pressure these metrics. Technology also appears undervalued. Telecom has strong forward earnings, but accounting changes have affected projections.
Relative valuations: On their own, valuations are not necessarily the best indicator of sector performance, but when combined with other factors, valuations can be a useful tool in determining the risk-and-reward profile. Forward earnings yield reflects analysts’ published earnings-per-share estimates for the next 12 months, divided by market price per share; it is the inverse of the price-to-earnings (P/E) ratio. Free-cash-flow yield reflects free cash flow divided by market price per share; it is the inverse of the price-to-free-cash-flow ratio. Source: FactSet, as of 12/31/14.
Momentum: Continued rotation into defensive sectors
Signs continue to suggest a rotation into defensive sectors, with health care and utilities among the momentum leaders over the past 12 months. Meanwhile, energy has decelerated sharply, as plunging oil prices weighed on earnings and unnerved investors. Telecom and materials also have lagged, from a momentum standpoint.
Momentum: Momentum compares the rate of acceleration in the price of securities within a sector over time. It can be used to analyze relative sector performance as well as to evaluate performance for a sector separately from the broader market. Past performance is no guarantee of future results. Charts show performance of S&P 500 Sector Indices, indexed to 100, from 12/31/12 to 12/31/14. It is not possible to invest directly in an index. All indexes are unmanaged. Source: FactSet, as of 12/31/14.
Relative strength: Health care, technology, staples strong
Defensive sectors including health care, consumer staples, and utilities were among the strongest performers over the past six months, along with information technology. Also among the top performers was consumer discretionary, a sector that often benefits from lower gas prices. Energy was the weakest sector, as oil prices plunged over the six-month period.
Relative strength: This indicator compares the performance of each sector with the performance of the broad market based on changes in the ratio of the securities’ respective prices over time. Past performance is no guarantee of future results. Charts represent performance of specified S&P 500 Sector Indices relative to the broader S&P 500 Index. It is not possible to invest directly in an index. All indexes are unmanaged. Source: FactSet, as of 12/31/14.
REITs: Valuations still supportive, fundamentals solid
Real estate investment trusts (REITs) were among the top industry performers in 2014. Real estate is a component in the financials sector. Although valuations rose, they remain in line with long-term averages (left). Still-depressed commercial construction activity (right), along with higher occupancy and rents, have created a supply/demand dynamic that enhances property owners’ ability to boost dividend growth.
Past performance is no guarantee of future results. Shaded areas indicate recessions as defined by the National Bureau of Economic Research. (NBER). LEFT: NAV = net asset value, or the value of REITs’ underlying real estate properties. Data indexed to historical averages. Source: Green Street Advisors, CTRB NAREIT Index Directory, NBER, Bloomberg Finance L.P., Fidelity Investments (AART), as of 12/31/14. RIGHT: Average = quarterly annualized starts as a percentage of existing stock. Source: NBER, Citigroup Research & Analysis, Fidelity Investments (AART), as of 9/30/14.
Energy: Excess of supply vs. demand pressures oil prices
The continued surge in crude oil production from North America, combined with further slowing in new demand from cyclically challenged importers such as China and other emerging markets, resulted in significant oversupply in 2014. Prices may stabilize going forward, however, as lower prices restrain supply additions and potentially spur renewed demand.
Petroleum is crude plus natural gas liquids. LEFT: 11/14 compared to 11/08 data. Source: Based on IEA data from the IEA Oil Data Service © OECD/IEA 12/14, IEA Publishing, Fidelity Investments (AART), as of 11/30/14. RIGHT: Year-over-year change through November of each year. Source: Based on IEA data from the IEA Oil Data Service © OECD/IEA 12/14, IEA Publishing, Fidelity Investments (AART), as of 11/30/14. Price of crude: FactSet, as of 12/31/14.
Sizable energy sector decline suggests defensive rotation
Historically, when energy has underperformed the broader U.S. equity market by more than 15%, it has had clear implications for forward performance among the other 10 sectors. Markets often turn defensive when energy underperforms significantly, which can benefit sectors such as consumer staples, telecommunication services, health care, and utilities.
Modest Energy Underperformance = underperforming broader market by 5%-15%. Large Energy Underperformance = underperforming broader market by more than 15%. Broader market represented by top 3,000 U.S. stocks by market capitalization; sectors as defined by GICS. Source: Haver Analytics, Fidelity Investments, as of 12/31/14.