Shift to Cyclicals?
It’s rare for a powerful equity rally to be led by non-cyclical sectors such as consumer staples and utilities, as we’ve recently seen. Cyclical stocks typically outperform defensive sectors during a rally. This unusual market behavior has caught otherwise bullish investors by surprise, who were anticipating cyclical stocks as the place to be.
The stock rally notwithstanding, data last week implied a slight slowing of growth in the global economy. However, we still believe growth will pan out better than the currently tempered expectations for China, Japan, and the U.S. The massive liquidity being pumped into the markets through the efforts of key central banks – the Bank of Japan and the Fed in particular – appears to be motivating investors to rotate out of cash and bonds into conservative equities for the time being. A rotation into cyclicals may be next.
The optimism of such a move is partially fueled by the market price action after last Friday’s brutally bad payroll number. Stocks managed a decent reversal, and cyclical segments performed relatively well as the day wore on, and the tape has continued to trade similarly this week. It appears the market may be in the fledgling stages of a rotation out of conservative segments into the laggards of energy, materials, and industrials. Cyclical segments could do reasonably well over the next few months, as investors regain confidence, especially if we get somewhat better earnings reports and economic data exceeds the now tepid expectations.