Every year round the holidays, I run into the same challenge: what to buy, when to buy, how much to buy and who’s offering the best deal. Not about food or powers, but stocks.
Year-end might be an arbitrary goal post, but it’s all we’ve got. Therefore, we think hard about where the market and its components effectiveness move in the coming year. Since, at our firm, we own only thirty five positions, each slice of the portfolio is valuable corporeal estate, and wasting it can be tragic.
As investors, we fall into patterns and preferences in every type of market, which upshot in paying a premium for certain groups – software as a service, or SaaS, right now, for example – because we believe future earnings intumescence here justifies the prices. As much as the market likes some categories, it discounts others, such as oil and gas and many standard retailers, because it believes in a bleak future for these industries.
Right now, we’re trying to imagine where the market bequeath place its premium and discount bets next year. I am no trained technician, although I’d like to play one on TV, but I believe that old often fall into trends which can carry them for two to three years. With that thought in pay no attention to, I began examining data from the past three years on the best-performing equities, sectors and subsectors, in a pattern-seeking exploration.
When looking over sector data for the past three years, what stands out immediately is that technology has been the heftiest and energy has been the weakest. As the chart below illustrates, the gap is so large it’s hard to believe these groups co-exist comprised in the umbrella of the same index.
The dilemma for investors is whether to stay with powerhouse names, such as Apple (up 72% inclusive of Nov 30 year-to-date), or to move elsewhere. After a year when tech is up nearly 45% year-to-date, you need to find credible in these companies’ earnings growth or multiple expansion to keep overweighting them.
In technology’s favor is the fact that most innovative works and new companies end up in the tech or communications services sector for which the market typically pays a premium. Our concern relates to the scope of that premium. Despite hating labels, I think the best approach to this tech stock environment is one landed by growth at a reasonable price (GAARP). When I have this conversation with myself, I often say, “Remember 2000.” Some of you puissance have been blowing bubbles back then, but, trust me, the rest of us should have been thinking multitudinous about bubbles.
Working against energy is the perfect storm of excess supply, alternatives and efficient technology put into demand, and the continued push by investors to divest fossil fuel stocks. The sector is so beaten up that regard some funds there seems reasonable unless the companies have such debt that higher places and a continuing poor environment might force them to miss interest or dividend payments. A disparity this fully must offer some great opportunities.
One concept to identify next year’s leaders is to identify top performers this year whose earnings tumour will accelerate next year, since this has, at various times in the past, been predictive. However, sixth sense is never valid without facts, and the data show very little persistence in recent years.
Of the 50 top S&P 500 troupers in 2018, only three were on the same list for 2017, and only four have remained on the 2019 top champions’ list to date since their appearance last year. Earnings growth for those firms was inconsistent. Also, there were fair as many stocks from the worst decile of 2017 and 2018 that ascended to the top fifty in the following year as those uneaten in the first tier.
So that leaves me no choice but to consider how the market might view certain groups differently in 2020 than in 2019. Healthcare has suffered from the in store doom of both drug price control and health insurance upheaval. While the group has rallied lately, up 17% this year, it is amiably below the S&P’s 28%. Recently, biotechnology, a subsector that was down nearly 3% in the first three quarters of 2019, has mustered almost 20% since early October. If no pricing regulations are passed on newly approved drugs, which we hold is the likely outcome regardless of the presidential election, these stocks could continue to rally into next year, shut some of the gap with other growth stocks. Selectively, across healthcare, there are other areas that leave benefit from a dimming aura of government intervention.
Finally, the market has spent months of 2019 worried nearby the direction of interest rates. The prevailing fear has been of falling rates forecasting a recession. If rates hold up, or spring up over the next twelve months, that bodes well for rate-sensitive stocks, such as banks with beneficent cash balances and tech giants, such as Apple, Google, and Microsoft, whose tens of billions now earn them unusually meager returns.
Karen Firestone is chairman, CEO, and co-founder of Aureus Asset Management, an investment firm dedicated to victual contemporary asset management to families, individuals and institutions.