Anatomy of a Sector Play
To say that it has been interesting couple of months would be the height of understatement. September brought us a negative 7.18% return, as measured by the S&P 500 Index, which amounted to negative 10.04% for the year through September. Meanwhile October, as of Wednesday’s close, gave us a positive return of 9.77%, bringing us up to negative 1.24% for the year ended Oct. 26.
So, what has changed in the past month, where is the money flowing to, and what are the current sector valuations? At first glance, nothing much has changed, as we can see in the charts below.
A quick analysis of the value of each sector, as measured by price-to-earnings ratio, will give us an informative, but incomplete, perspective for September and October.
If we look at the end of September, the most expensive and valuable sectors were Consumer Staples, Consumer Discretionary, Utilities, Technology and Industrials. The least valuable sectors were Healthcare, Materials, Financials and Energy. Meanwhile, the SPDR S&P 500 (SPY) had PE of 11.5x.
So, what has changed in October? Pretty much nothing. If we look at individual sector valuation, we see pretty much the same picture. The Consumer Discretionary, Consumer Staples, Utilities, Technology and Industrials sectors were the most expensive, while the least valuable sectors were Materials, Healthcare, Financials and Energy. The SPY had a PE of 12.6x.
The sector valuation and relative ranking seemed to remain static. But is it? If we look at the growth of each sector’s PE, we see a very different perspective.
First, the ranking, based on value growth, has changed dramatically. Energy, Materials, Industrials and Financials sprang from the bottom to the top. Healthcare, Consumer Staples and Utilities barely grew in relative terms, whereas the SPY grew by 9.5%.
Second, the growth of the least-valuable sector, Energy, was 7x the growth of one of the more valuable sectors, Utilities. The value of the second-least-valuable sector, Materials, grew almost 3x the next most valuable sector, Consumer Staples
Several conclusions can be drawn from this exercise. First, sometimes things are not as they seem and we need to do further analysis. Second, as of today, investors believe our economy is getting better and they are investing in sectors that do well in a growing economy. Finally, any country’s economy will go through economic and business cycles and some sectors will always outperform others based on the stage of those cycles.
At the time of publication, Gurvich and Rockledge clients had long positions in XLB, XLE, XLF, XLK and short positions in SPY, XLP, XLU, XLV, XLY, although positions may change at any time.
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