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Schwab Sector Views

Schwab Sector Views: 18 Thoughts Heading into '18

Key Points
  • 2017 was a remarkable year marked by record low volatility and the ongoing strong bull run for the tech sector.

  • In our view, a repeat of 2017 is unlikely, and we’re expecting more sector changes in 2018 than there were in 2017.

  • Having a plan heading into the New Year can help prepare investors to make rapid adjustments if needed.

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 upcoming holidays, the next version of Sector Views will be published on January 11, 2018.

Random Thoughts  

OK—so these thoughts won’t necessarily be so random. While I think about the following issues on a daily basis, it’s a good time to bring them up to give you the opportunity to contemplate what it may mean for your investing year ahead—or at the very least give you something besides politics to talk about at family gatherings!

1. Looking back at 2017, it truly was extraordinary as we saw record low volatility. That resulted in the fewest changes to Sector Views since their inception—one (boosting health care and downgrading real estate).

Record low volatility

Source: FactSet, Chicago Board Options Exchange. As of Dec. 5, 2017.

And a year of tech outperformance (decent recent pullback)

Source: FactSet, Standard & Poor's. As of Dec. 5, 2017. Past performance is no guarantee of future results.

 

2. It seems unlikely to us that we will have another year with so little volatility and so few sector changes.  The stage appears to be set for at least a bit more action in 2018 with midterm elections, global tensions, the Federal Reserve continuing to “normalize” monetary policy and valuations that we view as elevated.

3. Heading into the New Year, however, we see no reason to change our current outlook, which includes outperform ratings on tech, financials and health care and underperform outlooks on utilities, telecom and real estate.

4. OK, I said no politics but I can’t help it. Will the tax reform package get passed in late 2017 or early 2018 and what form will it take?  Although there has been some apparent sector rotation surrounding potential winners and losers from a tax deal, we don’t see anything at this point that warrants a changing investment stance—but stay tuned.

5. And while we’re on the political front (almost done), the regulatory environment is changing, mostly for the good, in our view, but it poses a threat to a few areas.  Congress and the Administration continue to roll back regulations on the financial industry, recently by raising the level of assets required to be considered “systematically important”—a good change for regional banks.  On the other hand, according to various stories in the Wall Street Journal and elsewhere there has been more scrutiny from Congress and the White House with regard to leaders in the tech industry—with privacy, security and monopolizing services among the top concerns.  At this point we believe it’s more smoke than fire, but it’s something we’re watching.

6. Last one on politics. Will there be an infrastructure package that both Democrats and Republicans can agree on?  Both sides have noted needs for rebuilding roads and bridges, updating air travel and modernizing ports—but whether they can come to an agreement in an election year is very much in question.

7. While we’re on the infrastructure issue, it is appearing to us that capital expenditures (capex) will be a dominant theme in 2018. Business optimism is elevated and already we’ve see multiple components of capital expenditures start to move up. 

Business optimism is elevated 

Source: FactSet, Natl. Federation of Independent Business. As of Dec. 5, 2017.

 

And we're seeing capital expenditures tick higher

Source: FactSet, U.S. Bureau of Economic Analysis. As of Dec. 5, 2017.

8. We’re getting old!  Not any of you (or me!) of course, but the equipment used by businesses.  According to Cornerstone Macro Research, the average age of Private Capital Stock is at an all-time high—nearly 13 years, with tech items also threatening to break above previous highs. To us, this can’t last, especially considering the tech advances and competitive global environment that currently exists.

9. Capex could also get a boost from Washington.  A measure that seems likely to be included in any tax reform bill that does pass would allow companies to expense 100% of capital expenditures immediately, instead of having to spread them over numerous years.  Additionally, repatriation of foreign held cash could provide additional fuel, while if an infrastructure package was agreed to another boost to capex would be possible.

10. One area of capex that we’re watching closely is in the energy space. Energy companies still appear cautious, with the Financial Times recently reporting that a major oil company in the U.S. announced it wouldn’t spend on any projects that required oil to be greater the $50/barrel to be profitable.

11. We have a hard time believing oil prices will spend much time above $60/barrel.  Recently the International Energy Agency (IEA) lowered its demand forecast by 190,000 barrels per day (bpd), while also noting that they expect non-OPEC members to boost production rapidly. 

12. We are also skeptical that the recent restraint shown by oil companies can last.  Budgets have to be met and executives of public companies are scrutinized on a quarterly basis.  Already we’ve seen recent restraint in the U.S. start to break down as oil moved closer to $60/barrel with rig counts moving higher

Rig counts have turned higher 

Source: FactSet, Baker Hughes, Inc. As of Dec. 5, 2017.

13. OK, I said last one but these are “random” thoughts. What will be the fate in 2018 of the Affordable Care Act?  We remain optimistic on the health care sector, but the volatility seen in 2017 will likely continue into 2018.  We believe that the demographic situation—aging populations—will overwhelm political tinkering but it would be foolish to completely discount the politicians.

14. The Federal Reserve—not political (at least not supposed to be!)—will be under new management and have several new members throughout the year.  We don’t currently expect major changes in the normalization process but the new makeup could change things.

15. The financial sector has benefitted in large part from the rising of the Fed Funds rate but the recent flattening of the yield curve has caused some concern. If the long end doesn’t rise but the Federal Reserve continues to raise the short end, we could become concerned enough to pare exposure to the sector—but we’re not at that point yet.

16. Despite the rise in rates at the short end of the yield curve, the utilities sector has continued to see periods of investor interest.  This confounds me as utilities offer little in the way of growth, in our view, and face new mandates to spend on more expensive “green” initiatives.  For example, in Colorado, where I reside, the public voted to require the public utility to increase the amount of energy it gets from wind and solar.  Highly regulated and profit margins that could be squeezed don’t end up as a great investment in our view.

17. Is 2018 the year that retailers finally turn the corner?  We’ve seen multiple closures and bankruptcies and, based on what you may hear in much of the media, the retail sector is dead. But we don’t think so.  Americans like to shop and there are some things that aren’t conducive to buying online.  The industry needed to be rightsized and we believe that is happening. We’re now seeing online sales growth moderate while department store declines have improved—indicating to us a better potential balance.  Retailers will have to work for their customers, but we firmly believe there will be winners to be had at good prices—although it will take some diligence by investors.

18. The telecom sector has had a tough year. It is the leading loser among the 11 sectors to this point, and 2018 will certainly see action.  There is already a regulatory challenge to a merger in the space, the result of which could impact future potential deals. Additionally, Standard & Poor’s announced that the telecom sector would merge with members of the media and entertainment group to form a new communication services sector—beginning in September 2018

Wait!  That’s 18 already?   I have about 1,000 more thoughts in my head that I would love to share!  But fortunately for your sanity, it’s not going to be the year 2098, but I can’t wait!  For now, contemplate these thoughts and be prepared, for those that are tactically inclined, to have a more active 2018.

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 12/05/2017

Consumer discretionary

Marketperform

07/17/2014

12%

20.77%

Consumer staples

Marketperform

05/07/2015

8%

12.17%

Energy

Marketperform

11/20/2014

6%

-5.35%

Financials

Outperform

05/07/2015

15%

21.27%

Health care

Outperform

01/26/2017

14%

20.90%

Industrials

Marketperform

01/29/2015

10%

17.33%

Information technology

Outperform

04/29/2010

24%

35.65%

Materials

Marketperform

01/31/2013

3%

21.09%

Real estate

Underperform

01/26/2017-

3%

9.73%

Telecom

Underperform

09/12/2013

2%

-6.44%

Utilities

Underperform

05/23/2013

3%

16.86%

S&P 500®  Index (Large Cap)

 

 

 

19.69%

Source: Schwab Center for Financial Research and Standard and Poor’s as of 11/30/17.

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.

Talk to Us

To discuss how this article might affect your investment decisions:

  • Call Schwab anytime at 877-338-0192.
  • Talk to a Schwab Financial Consultant at your local branch.
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Consumer Discretionary Sector Rating: Marketperform

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.

Performance may be affected by risks associated with non-diversification, including investments in specific sectors. Each individual investor should consider these risks carefully before investing in a particular security or strategy.

All expressions of opinion are subject to change without notice in reaction to shifting market and 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 strategies do not ensure a profit and do not protect against losses in declining markets.

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 Chicago Board of Exchange (CBOE) Volatility Index (VIX) is an index which provides a general indication on the expected level of implied volatility in the US market over the next 30 days.

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

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.

(1217-75LC)

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