A few brief comments on sectors and industry groups:
Last week there were notable signs of sector rotation in the market, as many technology stocks came under some profit-taking. The technology sector as a whole declined about 1% last week, while the strongest sectors were health care, basic materials and industrials, each of which gained about 5% for the week. Small caps outperformed the S&P 500, and value outperformed growth.
This group rotation is related to the recent news of progress on a virus vaccine, and optimism that a vaccine might be ready by the end of this year, which would be good news for the economic recovery.
The large cap technology stocks have acted as safe havens amid the virus crisis, because they have steady earnings growth and in many cases they benefit from the “work from home” trend. In recent weeks these big cap technology stocks have been outperforming on days when the news backdrop is worrisome (a “Risk Off” environment). On the other hand, small caps, cyclicals and value stocks have been outperforming on days when there is positive news on a vaccine, or other developments suggesting a strong economic recovery ahead (a “Risk On” environment).
The homebuilding group looks good
Amid these crosscurrents, our weekly review of fundamental and technical data highlights several parts of the market that currently look attractive.
One of these is the homebuilding stocks. Housing demand has remained strong despite the virus, and the industry’s fundamentals are sound:
- Mortgage applications recently rose by 33% year-over-year.
- Housing starts rose 17% in June to an annual rate of 1.19 million.
- The National Association of Homebuilders (NAHB) sentiment index rose to 72 in July, up from 58 in June.
- Mortgage rates (30-year fixed rate) have fallen to 2.98%, a record low.
Many of the homebuilding stocks have good fundamentals and bullish ratings from the quantitative stock selection model that we use, which is based on factors such as earnings growth and earnings estimate revisions. Also, compared to most technology stocks, the homebuilders have very attractive valuation levels.
In addition most of these stocks now have good technical positions. They had good relative strength as the market rallied in April and May, then for about the last 5 – 7 weeks they have been pulling back to their 50-day moving averages, forming bases or consolidation periods.
Over the past two weeks, some of them have broken out to new highs from these bases. Examples are shown in the following two charts.
Figure 1 Lennar (LEN) Weekly chart
Figure 2 D.R. Horton (DHI) — Weekly chart
Note: in our model portfolio that we published in February, before the virus crisis began, we overweighted the homebuilding stocks, as they had good fundamentals and good technical patterns in February. They declined sharply when the market plunged in March, but since then have recovered, and now look poised to move higher.
The strength in residential construction also supports related industries. Some of the building materials stocks look good, such as Owens Corning (OC) and Masonite (DOOR), along with retailers such as Lowe’s (LOW).
Another attractive market sector is health care, specifically pharmaceutical or biotech stocks such as Abbott Labs (ABT), AstraZeneca (AZN) and Moderna (MRNA), along with names in the diagnostics & research group such as Charles River Labs (CRL), Perkin Elmer (PKI) and Laboratory Corp. of America (LH).
A variety of other industry groups also look good based on a combination of fundamentals and technicals, including trucking stocks such as Marten Transportation (MRTN) and SAIA Inc. (SAIA).
In conclusion, these are a few areas of the market that look particularly attractive as of mid-July 2020. Second quarter earnings season is still unfolding, which may lead to heightened market volatility for the next few weeks. For a more detailed discussion of the general market environment, please see our second quarter review letter, which was written in early July.
Note: this comment was posted on July 19, 2020.