Our latest Quarterly Sector Update reveals that technology stocks remain best-positioned among the 10 sectors. Health care stocks and consumer discretionary stocks also continue to exhibit strength. 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 unique insights about sector investing—to present a comprehensive view of the performance potential of the 10 major equity market sectors.
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: Tech, health care, consumer discretionary positive
Technology now looks attractive on all five metrics, boasting positive short-term relative strength following Q2. Health care and consumer discretionary have similar setups: Both sectors are demonstrating generally positive signals and are the top two performers year to date, but appear somewhat expensive on relative valuations.
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 portions suggest underperformance, and unshaded portions indicate no clear pattern vs. the broader market, as represented by the S&P 500. Quarterly and year-to-date performance reflect performance of S&P 500 Sector Indices. It is not possible to invest directly in an index. All indices are unmanaged. Percentages may not sum to 100% due to rounding. Source: FactSet, Fidelity Investments, as of 6/30/15.
Business cycle outlook for U.S. consumer sectors
The U.S. remains in a solid mid-cycle expansion, which often results in the relative outperformance of cyclicals such as Technology and Industrials. The bright consumer outlook may boost discretionary spending that is typically stronger during the early cycle. Although not imminent, a late-cycle shift tends to favor sectors with more stable demand, such as Staples.
Past performance is no guarantee of future results. LEFT: 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 the 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), Sep. 2014. RIGHT: Discretionary personal consumption expenditure includes durable goods, clothing, and energy. Staples personal consumption expenditure includes nondurable goods ex. clothing and energy. Source: Bureau of Economic Analysis, Haver Analytics, Fidelity Investments (AART), as of 6/25/15.
Fundamentals: Technology and health care remain strong
The technology and health care sectors continue to shine from a fundamental standpoint, particularly in terms of earnings growth and free-cash-flow margin over the past year. The weakest sector on this trailing data is energy, driven lower by cheap prices and reduced oil-service spending.
EPS = earnings per share, the portion of a company’s profit allocated to each outstanding share of common stock. EBITDA = earnings before interest, taxes, depreciation, and amortization. The Financials sector is not represented in the EBITDA Growth or Free-Cash-Flow Margin charts. Please see the Glossary and Methodology slide for further explanation. Source: FactSet, Fidelity Investments, as of 6/30/15.
Relative valuations: Technology, financials, telecom appear inexpensive
Technology, financials, and telecom all appear relatively cheap, while valuations are modestly stretched for recent top performers consumer discretionary and health care. Energy also looks expensive on forward earnings expectations and free-cash-flow yield, but assuming book values remain stable, the sector appears undervalued on a price-to-book basis.
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. Please see the Glossary and Methodology slide for further explanation. Source: FactSet, Fidelity Investments, as of 6/30/15.
Momentum: Health care, consumer discretionary lead
Momentum leadership remained consistent, with health care, consumer discretionary, and technology holding on to their top rankings. Restrained by cheap oil, energy remained the biggest laggard. Telecom’s weakness persisted, and utilities stocks also continued their retreat, now trailing on a 12-month basis.
Past performance is no guarantee of future results. Charts show performance of S&P 500 Sector Indices, indexed to 100, from 6/30/13 to 6/30/15. Momentum is illustrated by comparing the performance of sectors to each other. It is not possible to invest directly in an index. All indices are unmanaged. Source: FactSet, Fidelity Investments, as of 6/30/15.
Relative strength: Health care, consumer discretionary reign
Health care has moved into the top spot, with consumer discretionary, and technology remaining within the narrow leadership group of sectors displaying relative strength. Tech’s one-month reversal amid an uptrend may pose a buying opportunity. Utilities and energy showed the greatest weakness, weighed down by disappointing performance year to date.
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 indices are unmanaged. Source: FactSet, Fidelity Investments, as of 6/30/15.
Fed cycles affect sector leadership
The onset of Fed tightening has traditionally been a signal that the beginning portion of the mid-cycle phase is ending, with some shifts in sector leadership. While tech has historically continued to perform relatively well during tightening cycles, the relative performance of the telecom and utilities sectors tends to improve once Fed rate hikes commence.
Most-recent Fed tightening occurred in 2010. Past performance is no guarantee of future results. Equity universe is defined as the top 3,000 U.S. stocks by market capitalization; sectors as defined by the Global Industry Classification Standard (GICS). Source: Fidelity Investments proprietary analysis of historical asset class performance. Asset class total returns represented by indices from Haver Analytics, Fidelity Investments, as of 12/31/14.
Tech evolution: A more balanced sector
Despite the common perception that technology stocks are predominantly emerging, growth-oriented, and highly volatile, the sector composition is changing. Both early-stage growth companies and mature, high-free-cash-flow-yielding stocks now compose the sector. Volatility has fallen, dividend yields have risen, and many balance sheets retain ample cash.
LEFT: S&P 500 Sector Indices. Source: FactSet, Fidelity Investments, as of 6/30/15. RIGHT: Relative standard deviation = standard deviation of the S&P 500 Technology Sector Index divided by the standard deviation of the S&P 500 Index. Source: FactSet, Fidelity Investments, as of 6/30/15.
Sectors can be an effective tool for managing equity risk
Sector volatility tends to be driven by macro forces. As a result, sectors that have less economic sensitivity tend to have more stable fundamentals and returns as well as fewer bear markets. Sectors that stand out for their relative stability include consumer staples, utilities, and health care.
For more information, see Leadership Series article “Applications for Sectors: Managing Risk” (Jul. 2015). LEFT: Standard deviations of 12-month year-over-year returns and growth rates from 1/31/1962 through 1/31/2015. Equity universe is defined as the top 3,000 U.S. stocks by market capitalization; sectors as defined by the Global Industry Classification Standard (GICS). Source: Haver Analytics, Fidelity Investments, as of 1/31/15. RIGHT: Bear market is defined as at least a 20% correction. Source: Haver Analytics, Fidelity Investments, as of 1/31/15.
Consumer staples has attractive characteristics
Due to the consistent demand for the goods produced and sold by companies within the sector, consumer staples exposure can often provide ballast to a broader portfolio, specifically during bouts of higher volatility. Consumer staples stocks also boast healthy dividend yields and strong dividend growth, making them attractive to investors seeking income.
Dividend yield and dividend growth data for 10-Year Treasury Bonds reflect yield-to-maturity and interest payment growth, respectively. Dividend growth and worst 3-year annualized investment return data are shown as annualized growth rates. Sectors are defined by the Global Industry Classification Standard (GICS®) and are based on the S&P 500 Sector Indices. Past performance is no guarantee of future results. You cannot invest directly in an index. Source: FactSet, Haver Analytics, Fidelity Investments, as of 6/30/15.