- US stock market showing signs of clear sectoral rotation
- Purportedly unloved Energy sector is now handily beating Technology
- Consumer Staples are moving up the performance tables
- Add in a slump in Consumer Discretionary names and investors seem to be preparing for less certain times
“Charles, the second Viscount Townshend is better known for his nickname ‘Turnip Townshend,’ thanks to the new farming techniques he introduced to the UK in the eighteenth century, most notably crop rotation for better land management, and, from an investment point of view, sector rotation can be both a key asset allocation tool and signal provider,” says AJ Bell investment director Russ Mould.
“Sharp-eyed investors will therefore be watching with interest how more economically sensitive areas of the US stock market are starting to lag, along with the much-loved Technology sector, and more defensive ones such as Energy and Consumer Staples are coming to the fore.
“Whether this is simply part of a shift away from US equities and toward other geographic options, notably the UK and Emerging Markets, or a more worrying sign of increased risk aversion and a growing desire for safety among investors remains to be seen.
“The message is an intriguing one all the same and while the market is not always right, by any means, its views should always be respected.
Source: LSEG Refinitiv data
“It could be that the imminent handover in the role of chair of the Federal Reserve, to Kevin Warsh from Jay Powell, pending Senate approval for Mr Warsh, is prompting a dash for safety, given the conflicting messages sent out by President Trump’s personal pick for the world’s top central banking job.
“On one hand, Mr Warsh has stated a clear preference for lower interest rates, in keeping with the thinking of both the President and Treasury Secretary Scott Bessent.
“On the other, he has taken the same line as Mr Bessent on the issue of the Quantitative Easing (QE), namely that the Fed kept policy too loose for too long and overexpanded its balance sheet as a result. Mr Warsh has argued in favour of a reduction in the Fed’s asset holdings, so that, as he put it, capital could be deployed on Main Street and not Wall Street. Stock markets may be less keen on this, especially as it could mean there is less cheap liquidity available with which to speculate, trade or invest, depending upon your viewpoint.
Source: FRED - St. Louis Federal Reserve database, US Federal Reserve, LSEG Refinitiv data
“The last month has shown the most violent shift in sectoral performance trends yet. This could be the result of uncertainty as to Mr Warsh’s intentions, but it could be the bears’ long-awaited retrenchment in technology sector valuations, or it could be someone, somewhere taking the view that the consensus view on the macroeconomic outlook of lower interest rates, lower inflation and steady economic growth is either priced in, wrong or both.
“The last month’s changes in positioning speak loudly of a move toward less economically sensitive sectors, as Energy and Consumer Staples top the pile, and Consumer Discretionary and Financials languish at the bottom.
“A rare foray for Real Estate in the middle echelons of the performance rankings, after a multi-year spell where the sector has been nailed to the bottom, suggests that investors are seeking protection in another way, namely by finding value among assets that have underperformed. This may also be reflected in how high-flying Information Technology stocks have suffered a derating and lost a little momentum, amid fears over the degree of AI spending, how it is to be financed and the impact upon software stocks and data providers in the event of a successful and widespread adoption of AI-powered tools.
Source: LSEG Refinitiv data
“This is all quite a contrast to the last five years, and even the past twelve months, when the Information Technology and Communications Services sector has grabbed the headlines and consistently featured among the leading sector performers, thanks to the presence of Nvidia, Apple and Microsoft in the former and Alphabet, Meta and Netflix in the latter.
Source: LSEG Refinitiv data
“Energy’s leadership on a five-year view stems from the depressed base of 2021, when oil and gas prices were trying to recover from 2020’s Covid-inspired collapse, when oil futures briefly traded in negative territory.
“Even that shows the importance of valuation. Energy stocks plunged in 2020, and expectations did too, with the result that it did not take much to get them going. Even a little less negative news flow might have helped, only for Russia’s invasion of Ukraine in February 2022 to put fresh emphasis upon the importance of raw materials and the safety of global supply chains.
“Energy stocks may be getting a boost from concerns over what American foreign policy toward Venezuela and especially Iran could mean, in terms of near-term supply of crude, but the switch towards this sector also highlights just how unloved it has become once more, and how little it may take to prompt a reappraisal.
Source: LSEG Refinitiv data
“The Energy sector’s $1.9 trillion market capitalisation represents just 3.3% of the S&P 500’s total valuation. That may be above the Covid-and-lockdown lows of 2%, but it is way below the 7.6% average that dates back to 1995.”
