The April 24th edition of the Source Sector Selector highlights that U.S. interest rates and the direction of commodity prices will be crucial factors in the global economy for the rest of the year. Source analysts Paul Jackson (formerly of SocGen) and András Vig offer five investment theses premised on the U.S. Fed beginning rate hikes within the next couple of quarters and continued weak commodity prices:
- Steepening yield curves due to rate hikes / Eurozone recovery will benefit the banking sector.
- Rising U.S. and UK yields will negatively impact healthcare.
- Weak commodity prices to chip away at resource sectors.
- Travel & leisure will continue to benefit from lower oil.
- A stronger dollar will benefit European media stocks.
Fed rate hikes: Source sector breakdown
Most favored sectors
US: consumer discretionary, financials, technology
Jackson and Vig note that the travel & leisure segment has been helped by falling energy costs. They note: “We suspect more help will come from this direction. To be honest, valuations are starting to look problematic in Europe, so we have a clear preference to be positioned in the sector in the US.”
Europe: financials, media, telecoms
The Source analysts note that banks have underperformed other financial sectors and the overall markets. The aftermath of the financial crisis (deleveraging, capital raising, depressed loan activity) has been an ongoing drag on earnings, Moreover, a shallow yield curve is hurting both U.S. and UK banks, although dropping yields in Europe will likely help bank balance sheets. The beginning of a rate hike cycle in the U.S. and burgeoning demand for loans and soaring property values in Europe should also give the sector a boost.
Least favored sectors
US: industrials, oil & gas, healthcare
The healthcare sector enjoyed relative earnings momentum compared to other sectors, but EPS improvements among other European sectors should see them playing catch up. The healthcare sector enjoyed a boost from falling bond yields, but the looming rate hikes will hurt the sector in both the U.S. and UK, as will valuations (Europe) and gearing (U.S.).
Europe: autos, industrial goods & services, retail
Jackson and Vig highlight the auto sector as “having enjoyed contrasting fortunes in the US and Europe (better in Europe). Gearing and profitability are more attractive in Europe (relative to the market) but this hardly seems to justify the current pricing. We are avoiding the sector in both regions.”