Aftermath of the Stock Market Correction: Defensive Sectors Lead the U.S. Market; Bear Market Worsens for International Equities

Rising interest rates and hawkish comments by the Fed caused a wave of deleveraging on a global scale. Investors pulled out rapidly from equities to reduce exposure, which caused the benchmark S&P 500 index to drop below its 100-day moving average:

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The bear market in international equities, both Europe and emerging markets, accelerated to the downside:

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Clearly, smart money is rotating into defensive sectors, while technology, cyclicals, and materials continue to underperform.

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From the technical perspective, utilities look the best. The Fidelity Select Utilities Fund (FSUTX) made a new high yesterday, and we would not be surprised to see more investment money flowing into this defensive sector:

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The relative strength for the telecom and the healthcare sectors is also positive:

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The materials and the semiconductor sectors stand out as the weakest performers in 2018:

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Sector Rotation: Defense and Telecom Sectors Break Out to New Highs

The Fidelity Defense and Aerospace Fund (FSDAX) and the Fidelity Select Telecommunications Fund (FSTCX) broke out from their trading ranges to new highs and turned bullish from the technical point of view:

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The Stock Market is Climbing the Proverbial Wall of Worry

The S&P 500 index continues to climb in September, in spite of worries about multiple potential trade wars:

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As we highlighted in June (read article), the strong economy and increased consumer spending favor the consumer cyclical sector. That is why one of our favorite sector investments is the Fidelity Select Consumer Discretionary Fund (FSCPX):

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Sector Rotation: Conservative Sectors are the New Market Leaders

In the last few years, the technology sector was the go-to investment for growth-oriented investors. We just had to buy the dips after sell-offs, and tech stocks would eventually rally again to make new record highs.

The example of Facebook (FB) illustrates why this may be changing as we are heading into the fall season. FB dropped 20% in 15 minutes after the disappointing earnings call in late July. The chart shows that the stock was not able to recover, as investors are shifting towards more conservative and stable investments:
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The new market-leading sectors are health care, real estate, utilities and consumer staples:

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Changing consumer habits and cord cutting put pressure on earnings for telecommunications companies in the last two years, which resulted in the sector underperforming the market. We think that this may be changing, as telecom companies re-invent their product offerings and investors renew their interest in stable large-cap investments.

We think that the Fidelity Select Telecommunications Fund (FSTCX) is an excellent way to play this emerging trend:

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Why are Emerging Markets Declining?

The rapid decline of the Turkish Lira and an unstable geopolitical environment caused an exodus of investment capital from Turkey:

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The U.S. dollar continues to appreciate steeply against all major currencies, as investors are buying safe-haven investments denominated in the dollar.

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The combination of the weak dollar, a potentially broad trade war and the free fall of the Turkish market has created a bear market in emerging markets around the world:

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History tells us that bear markets do not resolve overnight. While an oversold rally is quite possible for emerging market equities, we think that select U.S. sectors offer the best risk-adjusted returns.

 

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Sector Rotation: Big Merger in the Media Sector is Good News for Investors

A federal judge approved AT&T’s purchase of Time Warner today, which can lead to more consolidation in the industry. We think that this could be a catalyst for this dynamic an innovative sector to catch up with the rest of the market.

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The Fidelity Select Multimedia Fund (FBMPX) has lagged most other sector funds in 2018, but we think that it can reverse the downtrend, as investors anticipate more mergers to come in the near future.

 

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Sector Rotation: Cyclicals are Outperforming Again; Top 3 Consumer Discretionary Funds

Low unemployment and a strong economy are boosting consumer confidence. Not surprising that the market anticipates that consumers will be spending even more on discretionary items, such as entertainment, travel and online shopping.

In our view, the best investment funds to play this trend will continue to be the ones that already perform well. We utilized the sector screen (provided by FidelitySectorReport.com) to identify the best candidates.

Top 3 Fidelity consumer discretionary funds:

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The Fidelity Select Consumer Discretionary Fund (FSCPX) provides a diversified investment in the broad sector. We like FSCPX at this point because it is outperforming the S&P 500 index again and the chart also shows a positive technical setup.

 

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The retailing sub-sector is the strongest within the cyclicals sector. The Fidelity Select Retailing Fund (FSRPX) is already at an all-time record level, but we think that it can go higher. Top holdings of FSRPX include leading companies, such as Amazon, Home Depot, Booking, and Netflix.

 

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In our view, a newly emerging investment opportunity is the Fidelity Select Automotive Fund (FSAVX). After five months of consolidation, we think that the technical picture is improving and FSAVX can catch up to the other sub-sectors in the cyclicals sector.

 

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The Financial Sector is Outperforming the Market and is Poised to Reach a New High

The strongest-performing sector funds today in our momentum screen are related to the financial sector.

Brokers have been beneficiaries of deregulation in the industry and continue to outperform the market:

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As traders anticipate an uptick in consumer spending, our new favorite in the financials space is the Fidelity Select Consumer Finance Fund (FSVLX). FSVLX holds investments in credit card companies, banks, and other consumer finance-related companies.

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Banks, as a group, are also doing well relative to other market sectors. While interest rates are rising across the board, a potential headwind for this sub-sector is the recently flattening yield curve, which involves short-term interest rates rising faster than long-term interest rates.

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Can Small-Caps Outperform in 2018? Top Fidelity Funds to Participate

Out of the four major U.S. indexes, the small-cap Russell 2000 is the first one to surpass the January high and reach an all-time record level:

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We view the relative outperformance of small-cap companies a positive development for the overall market. Small companies are responsible for most of the job creation in America and their strength signals a vibrant and growing economy.

Several large-cap sectors that are not impacted by the stronger dollar and by the rising interest rates are also performing well. Click here for a list of the top-rated industry groups.

Based on our technical screen, we like the Fidelity Small Cap Growth Fund (FCPGX) the most in the current market environment:

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One of our long-time favorites, the Fidelity Low Priced Stock Fund (FLPSX) is also performing well:

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Sentiment is Turning Bullish Again; Five Sectors that can Lead the Market Higher

Strong earnings and a potential breakthrough in the negotiations with North Korea made investors feel more cheerful and caused a broad rally in the stock market.

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Equity markets around the globe rallied in recent days, but the U.S. market continues to be the leader.

Rising tensions in the Middle-East and the strengthening dollar resulted in the energy and natural resources sectors becoming the strongest performers in the last three months (see article):

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Large-cap real estate stocks also rallied, as we highlighted earlier (see more):

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We also like the bullish trends in technology, medical devices, and financials sectors:

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Sector Rotation: How to Play the Breakout in Real Estate

Real estate stocks have been lagging the market due to concerns about rising interest rates. However, with long-term Treasury yields stabilizing in the 2.95 – 3.20% range, we see a new opportunity to look at the real estate sector.

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The chart shows that the Fidelity Real Estate Fund (FRESX) broke out and cleared its 100-day moving average, which we use as an indicator of seasonal trends.

 

International real estate looks even more attractive, as the long-term bullish trend continues to be in place:

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The long-term bullish trend of the Fidelity Real Estate Investment Fund (FIREX) remains intact.

 

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Can Energy and Defense Stocks Rally Following the Allied Airstrike in Syria?

Defense stocks surged on April 7, following the first U.S. strike to punish the Syrian regime. We think that we will likely see a similar response by investors following last night’s airstrike on chemical weapons facilities in Syria.

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The Fidelity Select Defense and Aerospace Fund (FSDAX) has outperformed the broad market for more than a year. We anticipate that the strong trend will continue in the wake of allied airstrikes in Syria.

 

We also think that the increased risk of escalation of the Syrian conflict and the potential for disruption of oil production could lead to higher oil prices and the continuation of the bullish rally for energy stocks.

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The price of the West-Texas Intermediate Crude Oil (WTIC) could reach the $70 per barrel mark next week in response to increased geopolitical risks.

 

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The energy sector experienced a 20% correction at the beginning of 2018 but seems to be recovering again in response to higher oil prices. The Fidelity Select Energy Fund (FSENX) could be a great way to play this trend.

 

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Stock Market Correction Continues with a New Wave of Selling

The stock market started the second quarter with heavy selling. The S&P 500 index dropped by more than 2%:

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Technology and consumer discretionary stocks led the sell-off, including Intel (down -6.07%), Amazon (down -5.21%), Netflix (down -5.10%) and Facebook (down -2.75%).

Not surprisingly, mutual funds with large holdings in these names declined the most today:

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Investors were selling other high-risk assets too, such as biotechnology shares:

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With the dollar no longer falling versus the major currencies, international investments in Europe and Asia are becoming less attractive, as well:

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Remarkably, all sector funds closed down today. In our view, this rare occurrence may signal a significant shift in investor sentiment towards a more bearish stance.

The momentum rankings of Fidelity sector funds show that the defense sector and some sub-sectors of technology are the strongest relative to other sectors:

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Furthermore, the charts below show that both the Fidelity Select Defense and Aerospace Fund (FSDAX) and the Fidelity Select IT Services Fund (FBSOX) stayed above their respective 100-day moving average.

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We use the 100-day moving average to assess the direction of seasonal, or intermediate-term, trends. The only other Fidelity sector fund that is above its 100-day moving average is the Fidelity Select Utilities Fund (FSUTX):

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Overall, in our assessment, most sectors that make up the U.S. stock market are turning bearish in the short to intermediate-term timeframe, which could lead to further downside risk.

 

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Aftermath of the Stock Market Correction: Retailing, Defense and Banking Sectors are the New Leaders; Communications Equipment Fund is the First Sector Fund to Break Out to a New High

After the unexpected correction last week, the U.S. equity market rallied back in the last three days, in spite of fears of rising interest rates and inflation:

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Based on the three-month total return, which is a measure of price momentum, the consumer cyclicals (such as retail), industrials (such as defense) and the financials (such as banking) sectors led the market higher:

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We continue to like the technology sector, as well. In fact, the only sector fund that made a new all-time high today is the Fidelity Select Communications Equipment Fund (FSDCX), which represents a sub-sector of the broader technology sector:

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Stock Market Sell-off is Caused by Rising Interest Rates; Cyclicals, Financials and Industrials Remain the Strongest Sectors; Treasury Bond Funds Underperform

In January the stock market became dangerously overbought following the tax reform rally, and as we anticipated, a sell-off occurred:

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Chart 1.

The sell-off was triggered by rising interest rates, fears of rising inflation, and the potential of a more aggressive monetary policy by the Federal Reserve.

A worrisome sign for the stock market is that shorter-term interest rates are rising faster than long-term rates, which could lead to yield curve inversion, a condition where short-term rates are higher than long-term interest rates. The bottom panel of Chart 2. shows the ratio of the 10-year vs. 30-year yield indexes. The ratio line is steadily rising since last July, as denoted by the blue arrow:

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Chart 2.

Rising interest rates negatively impacted funds that invest in this space:

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Chart 3.

The stock market sell-off is uneven with some sectors falling faster than others. Currently, the spread of the total return between the best and the worst sectors over the last three months is 25%. Should the market continue to drop, we think that this spread will continue to widen. Conversely, if we see a relief rally by mid next week, the spread will probably become more narrow.

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Chart 4.

The industry groups with the strongest relative strength vs. the S&P 500 index are the cyclicals (consumer discretionary), financials and industrials. We’d like to highlight financial services and defense stocks (part of the industrials group) as two sectors that can potentially lead the market once the market correction ends.

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Chart 5.

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Chart 6.

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Chart 7.

We continue to like the technology sector, as well, because of its lesser dependence on changes in interest rates and because of the proliferation of disruptive technologies from robotics to intelligent software:

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Chart 8.

 

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Large Price Drop of the Fidelity Select Industrial Equipment Fund is Due to Capital Gains Distribution

The Fidelity Select Industrial Equipment Fund experienced a large drop of its net asset value (NAV) on Tuesday. The explanation is that yesterday was the ex-dividend date for this fund and the $5.542 per share dividend was paid out:

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More information is available at the Fidelity.com website (https://fundresearch.fidelity.com/mutual-funds/fees-and-prices/316390533):

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Why Diversify your Portfolio in 2018?

While technology, industrials, and cyclicals were the strongest sectors in 2017, we think that it may make sense to diversify into additional areas, such as the health care sector, to protect against the potential of increased volatility in 2018.

Currently, the Fidelity Select Medical Delivery Fund (FSHCX) is the strongest fund in this sector based on its three-month total return. FSHCX holds investments in health care insurance and service companies.

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In our view, another excellent investment fund is the Fidelity Select Medical Technology and Devices Portfolio (FSMEX), which primarily invests in companies that manufacture medical equipment and surgical devices. The chart shows that the price consolidated in the last 6 months, however, the current rally can lead to a new breakout, which will likely lead to increased rotation into this sector:
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Top Sectors are Overbought, a Sell-Off is Likely

2018 started on a good note for equity investors. After the first few days of trading, the Nasdaq index moved above the 7,000 level, while the Dow Jones Industrial Average surpassed the psychologically important 25,000 level.

The market rally is broad-based, which allows investors to diversify across of multiple sectors. Looking at the three-month total returns, the energy, the natural resources and the retailing sectors lead the market right now:

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However, as shown on the chart of the Fidelity Select Energy Fund (FSENX), the RSI indicator signals an overbought condition, which is often followed by a sell-off:

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We think that instead of chasing the current market leaders, investors may consider overweighting the financials sector. One of our favorite funds in this space if the Fidelity Select Financial Services Fund (FIDSX). The price consolidated in December, but the long-term uptrend was not interrupted. FIDSX is now showing signs of starting a new upleg, which we think can provide an optimal entry point for overweighting an existing position or starting a new position in this sector:

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