Play The Secular Trend On Stock Markets
Reflation is on track and has supported a major sector rotation into cyclicals over the past few months. For investors taking a longer-term view or convinced of current cyclical drivers, we suggest playing companies which benefit from a secular trend in their activities. They will offer solid growth potential in the medium term. We recommend two sectors: Technology and Health Care.
A shift in momentum on stock markets
Since last summer, stock markets have clearly benefited from the signs of a shift from monetary stimulus to a more fiscal policy. Investors have progressively embraced the view that the next key policy tool will be fiscal support via tax cuts and higher infrastructure spending. Investors, who in previous years were centered on the downside risks of a deflationary environment, have moved to reflation themes in the past few months.
Some investors may not fully believe in this reflation trade as a long-term investment theme. There are still many uncertainties about implementation of the reflation policies. In the event of disappointment over fiscal impetus, the macro-economic scenario could shift from reflation hopes to stagnation. A rise in inflation without a corresponding rise in growth expectations would be negative and would support a move to more cautious investment themes.
A prudent view about longer-term growth prospects will favour companies offering a solid and visible earnings outlook in our view. For investors taking a long-term view, we recommend playing sectors with secular growth.
Adopt a long-term stance through robust activities
By definition, a “secular sector” benefits from a positive earnings growth trend over the long term. It is likely to profit from global changes in demographic and consumption trends and is consequently less sensitive to cyclical drivers. Although the reflation trade will continue in 2017, the secular trend is expected to remain intact. Any market correction in these sectors will thus offer buying opportunities.
For the time being, we identify two sectors with a solid long-term growth: Technology and Health Care.
Both sectors show consistent demand for products or services, regardless of the economy. Their resilient profitability underlines their decisive advantage in comparison to sectors such as Banks and Energy, which have suffered from major structural changes over the last few years.
Health Care regroups both the Pharma and the Health Care Equipment industries. Ageing population and medical innovation are supportive for these sectors as demand is expected to remain strong over a long period. The pipeline of new products is strong in oncology and Alzheimer disease for example. In addition, Health Care companies benefit from solid balance sheets and often pay high dividends. As the pharma industry has performed badly during the last few months, valuations have become relatively attractive. Current share price levels thus offer an attractive entry point for investors with a long-term perspective.
Technology is another sector benefitting from secular growth. We live in a fast-paced world in which consumption habits and the way people communicate are changing. Industry segments, such as Cloud computing, e-commerce, big data, Internet of things, mobile payments and offshore models, are likely to benefit from increasing demand for innovation and connectivity.
Note: this list is not exhaustive as other sectors can be played if secular growth potential is identified in specific activities such as infrastructure.
Risks to our view
From a relative perspective, the largest risk is the continuation of the reflation trade beyond the short-term horizon. In that case, the pro-cyclical sector rotation is set to continue and secular stocks may continue to underperform Cyclicals. Another risk is the growing concerns over global trade. The rise of populism around the world may fuel an increase in protectionism in major countries. This might affect companies which are sensitive to the global economy. A tighter regulatory framework is also a risk to the Health Care sector, even if Trump’s election victory makes this unlikely, at least in the United States.