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Schwab Sector Views: 9.5 Thoughts for the Second Half

Key Points
  • The first half of 2019 was characterized by a couple of major reversals, with defensive and cyclical sectors taking turns leading the market. 

  • Uncertainty about trade policy and interest rates seems set to continue, but those aren’t the only issues that may affect second-half performance. 

  • We’d like to make a more substantial sector call, and believe we will in the second half, but for now our Sector Views remain relatively neutral.

Schwab Sector Views is our three- to six-month outlook for 11 stock sectors, which represent broad sectors of the economy. It is designed for investors looking for tactical ideas. We typically update our views every two weeks. 
*Due to the upcoming Independence Day holiday, the next version of Sector Views will be published on July 18, 2019.

Listen to the latest audio Schwab Sector Views.

Halftime

It’s somewhat hard to believe we’re almost at the halfway point of 2019. And it’s now, in the heart of summer-vacation season (when we have a feeling investors may not be paying quite as much attention as usual to their investments), that we think it’s valuable to take a look at your portfolio from a higher level, and consider what may be worth watching in the second half that could affect your sector allocation. Long-time readers of this publication (thank you) know that the last publication of every year has thoughts for the next year—18 for 2018, 19 for 2019, etc. Since we’re halfway through ’19, and you’re anxious to get back to summer fun, I thought half the amount of thoughts would be appropriate—9.5!

The thoughts

1.    We started the year believing the market was at an inflection point—and we were right, only there were several. The year started with a rebound as recession fears faded, only to fall again as trade fears ramped up, and then rally again—apparently on hope that the Federal Reserve will be cutting rates in the near future. For sector investors, this whipsaw action resulted in defensive and cyclical sectors taking turns at the head of the pack. At this point, it’s somewhat difficult to imagine a major change in the second half.

Some sharp reversals in the first half

S&P 500 w markers

2.    Trade disputes, especially between the U.S. and China, seem unlikely to be fully resolved in the second half, although they could improve. The disputes are apparently starting to hurt confidence in some areas, although small-business confidence remains high. Last week’s Sector Views outlined what sectors may stand to benefit depending on which way the trade issues develop, but at this point we can’t make a major call because things can change quickly—as we’ve seen.

Business confidence is mixed—but appears to be seeing an impact from trade

NFIB Small Business Optimism Index vs CEO Confidence

3.    The market may be relying too much on potential Federal Reserve short-term interest rate cuts. Fed funds futures are pricing in a roughly 90% chance of two cuts by the end of the year—likely a major factor behind the recent market rally. Two potential problems in my mind: Cyclical sectors could be dinged if the Fed fails to live up to those expectations, and even if the Fed were to cut rates, how much will such moves actually help an environment that seems more influenced by trade uncertainty?

4.    In spite of the above uncertainties, consumer confidence remains high, and the labor market remains healthy, which should help to support economic growth in the near term, and keep defensive sectors from really gaining steam absent another external shock. 

Consumer remains confident

consumer confidence

And labor market appears healthy

Unemployment rate

5.    In a nutshell, that’s why we remain relatively neutral in our sector views, with an outperform rating on health care and an underperform rating on communication services. Leaders can change quickly, and until we get some clarity on some of these issues it’s most prudent in our view to stay patient and have a relatively neutral portfolio. 

6.    We aren’t calling for a recession in the near term—although the possibility has certainly risen. The New York Fed’s recession probability model, based on the Treasury yield spread, has moved up rapidly recently, and is now sitting at about a 30% chance of a recession in the next 12 months. One note: During the past 60 years, several recessions had already started by the time that level was reached.

7.     For those investors who think a recession is in store in the next 12 months, it may be interesting to note that, according to Ned Davis Research, the consumer staples, health care and utilities sectors have outperformed in the 12 months leading up to the start of a recession. The first two also have outperformed in the 12 months after the start of a recession. Meanwhile, information technology and communications have struggled in the year leading up to a recession. Of course, past performance is no guarantee of future results, but history can be a place to start when making investment decisions.  

8.    Adding to my concern for the second half is the fall in oil and copper prices. In spite of OPEC’s insistence that it will keep cutting production to support prices (Reuters), oil has continued to suffer. This could be a sign of economic slowing, but also potentially help consumers and businesses with lower energy costs. 

Oil and copper showing economic weakness?

WTI crude vs copper

9.    The health care sector, our lone outperform-rated group, struggled in the first half of 2019. Fears of a government takeover of much of the country’s health care appeared to damage the sector, although those fears may be fading, as the group has outperformed over the past month. We continue to believe this sector provides both growth and defensive characteristics that should benefit from the environment we see developing. 

9.5.     So what deserves the half a thought? For now—the 2020 election! It’s well over a year away, yet already in the news on an almost daily basis. As poll leaders change—or don’t—and the president inevitably responds, sectors could react. We would not overreact at this point—there’s still a long way to go!

There’s plenty to think about and watch as we head into the second half, and we will keep you updated and make changes as needed—so check back often. But for now, remain relatively neutral, and enjoy your summer!

Schwab Sector Views: Our current outlook

Sector

Schwab Sector View

Date of last change to Schwab Sector View

Share of the
S&P 500 Index

Year-to-date total return as of 06/14/19

Communications Underperform 09/28/2018 11% 16.89%

Consumer discretionary

Marketperform

07/17/2014

10%

20.58%

Consumer staples

Marketperform

05/07/2015

8%

17.11%

Energy

Marketperform

11/20/2014

5%

7.41%

Financials

Marketperform

08/16/2018

13%

15.05%

Health care

Outperform

01/26/2017

14%

6.02%

Industrials

Marketperform

01/29/2015

9%

17.82%

Information technology

Marketperform

08/16/2018

21%

23.25%

Materials

Marketperform

01/31/2013

3%

15.18%

Real estate

Marketperform

08/16/2018

3%

22.41%

Utilities

Marketperform

08/16/2018

3%

15.82%

S&P 500®  Index (Large Cap)

 

 

 

16.29%

Source: Schwab Center for Financial Research and Standard and Poor’s as of 5/31/19.

 

Clients can use the Portfolio Checkup tool to help ascertain and manage sector allocations.

What is Schwab Sector Views?

Schwab Sector Views is our three- to six-month outlook for 11 stock market sectors, which are based on the 11 broad sectors of the economy.

The sectors we analyze are from the widely recognized Global Industry Classification Standard (GICS) groupings. After a review of risks and opportunities, we give each stock sector one of the following ratings:

  • Outperform: Likely to perform better than the rest of the market.
  • Underperform: Likely to perform worse than the rest of the market.
  • Marketperform: Likely to track the broad market.

How should I use Schwab Sector Views?

Investors should generally be well-diversified across all stock market sectors. You can use the Standard & Poor’s 500 allocations to each sector, listed in the chart above, as a guideline.

Investors who want to make tactical shifts in their portfolio can use Schwab Sector Views’ outperform, underperform and marketperform ratings as a resource. These ratings can be helpful in evaluating and monitoring the domestic equity portion of your portfolio.

Schwab Sector Views can also be useful in identifying stocks by sector for potential purchase or sale. When it’s time to make adjustments, Schwab clients can use the Stock Screener or Mutual Fund Screener to help identify buy or sell candidates in particular sectors. Schwab Equity Ratings also can provide an objective and powerful approach for helping you select and monitor stocks.

What you can do next

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Important Disclosures

Schwab Sector Views do not represent a personalized recommendation of a particular investment strategy to you. You should not buy or sell an investment without first considering whether it is appropriate for you and your portfolio. Additionally, you should review and consider any recent market news. Supporting documentation for any claims or statistical information is available upon request.

All expressions of opinion are subject to change without notice in reaction to shifting market or other conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Diversification and rebalancing strategies do not ensure a profit and do not protect against losses in declining markets. Rebalancing may cause investors to incur transaction costs and, when rebalancing a non-retirement account, taxable events may be created that may affect your tax liability

Indexes are unmanaged, do not incur management fees, costs and expenses, and cannot be invested in directly. Past performance is no guarantee of future results.

The S&P 500 Index is a market-capitalization-weighted index comprising 500 widely traded stocks chosen for market size, liquidity and industry group representation.

The National Federation of Independent Business (NFIB) Small Business Optimism Survey which is based on the responses of 740 randomly sampled small businesses in NFIB's membership, surveyed monthly.

The Business Roundtable CEO Economic Outlook Index is based on a survey — conducted quarterly since the fourth quarter of 2002 — of our member CEOs’ plans for hiring and capital spending, and their expectations for sales, over the next six months.

The Consumer Confidence Index is a survey by the Conference Board that measures how optimistic or pessimistic consumers are with respect to the economy in the near future

The policy analysis provided by the Charles Schwab & Co., Inc., does not constitute and should not be interpreted as an endorsement of any political party.

The Global Industry Classification Standard (GICS) was developed by and is the exclusive property of Morgan Stanley Capital International Inc. (MSCI) and Standard & Poor's. GICS is a service mark of MSCI and S&P and has been licensed for use by Charles Schwab & Co., Inc.

The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc.

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(0619-9FBZ)

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