by Jason Norris, CFA Executive Vice President of Research

Back in Business Again

It has been a volatile year for equities and as we head into the holiday season, that doesn’t look to dissipate. After the 12 percent sell-off investors went through over the past few months (Fed rate hike concerns, China market crash, Greek debt issues and the constant geo-political flare-ups), the S&P 500 has rallied back, culminating with its best week of the year. While 2014 proved to be a narrow market, 2015 is even more so. When you look at the 10 largest U.S. companies (see table below), you notice the majority of them, have enjoyed significantly greater returns than the 3 percent for the S&P 500.

Source: FactSet data through Nov 20, 2015

What is even more dramatic is that three stocks were responsible for all of this return: Amazon, Alphabet/Google and Facebook.

There have been prior periods of large cap driven markets, coupled with a handful of names driving that performance. But what we have experienced this year is less than a handful of mega cap names delivering all the index returns.

One thing to note on this narrow focus is the emphasis on “growth.” The sell-off we experienced this summer was a classic “growth” scare. Investors believed that due to the strong dollar and the slowdown in China would cause global economic growth to slow. While we’ve seen some stabilization in the equity market, there is still concern over global economic growth. As such, investors have been willing to “pay up” for growth companies and avoid cheaper names that are tied to the face of economic growth. For instance, the three stocks mentioned earlier trade at substantial premiums to the overall market.

Source: FactSet data through Nov 20, 2015

Investors are paying a lot more for a dollar of earnings for a select few names due to the concern over growth. This has resulted in growth stocks returning roughly 7 percent this year, while value stocks are down 2 percent.

Takeaways for the Week:

Different “styles” can come in and out of favor, the key is to remain focused on the long term and not chase short-term performance
As the global economy improves, value stocks should regain some leadership in 2016

Our Takeaways for the Week

Disclosures

by Jason Norris, CFA Executive Vice President of Research

A Light in the Black

What a week! With concerns about growth in China, continued deterioration of the Chinese equity market and U.S. investors rushed to the sidelines by redeeming over $17 billion in equity mutual funds and ETFs. This, coupled with concern over when the Fed will raise rates, led U.S. equities to experience a 12 percent correction from recent highs on Tuesday (see last week’s blog for more detail). This was long overdue as it had been almost four years since the S&P 500 had corrected by at least 10 percent, which was the third longest period in history. However, after six consecutive days of selling, on Wednesday the near-term bottom was reached on the S&P at 1867, down from its all-time high of 2130 which was reached on May 21, 2015.

Understandably, rapid downward moves in equities can be disconcerting. We don’t know if we’ve seen the bottom; however, we believe there is a light at the end of this tunnel in the form of domestic market fundamentals. For example, U.S. GDP was revised higher on Thursday from 2.3 percent q/q annualized to 3.7 percent. This was driven by several factors - primarily capital spending and consumer spending. Earlier this month we also saw retail sales numbers revised higher. When this data was originally reported, we did view it with some skepticism since our bottoms-up analysis did show better strength than the broad government reports.

After analysis of the earnings reports for the companies we own, it revealed annual growth in earnings of 2 percent; however, excluding Energy, growth was close to 13 percent. Even when looking at the broad market, earnings growth (excluding Energy) was around 5 percent. This growth was driven by the U.S. consumer and healthcare. These fundamentals signal to us that the U.S. economy is healthy and improving.

Earnings Growth for the 10 Economic Sectors of the S&P 500

	Q2 y-o-y growth	2015e
Consumer Discretionary	9.2%	11.3%
Consumer Staples	2.5%	1.7%
Financials	6.8%	15.9%
Healthcare	14.4%	12.7%
Industrials	-4.5%	-1.0%
Info Tech	4.5%	4.9%
Basic Materials	6.0%	-1.0%
Telecom	8.5%	8.3%
Utilities	6.5%	1.6%
Total (ex. Energy)	5.3%	7.0%
Energy	-55.7%	-56.3%
Total	-0.7%	1.0%

Source: FactSet

The table above highlights the underlying sectors of the U.S. market, showing both the actual growth rate for the second quarter and an estimate for 2015. The key to focus on is that commodity prices are bringing down Energy and Basic Materials, and the strong U.S. dollar and China is hurting Industrials. However, when you lift up the hood of the market, corporate America is still exhibiting solid growth.

Our Takeaways for the Week

Corporate earnings remain healthy
While volatility may remain until the Fed tightens, we still like equities long-term

Disclosures