Investing

Pricing in Reality

We’ve previously highlighted the reversal in 2020’s outperformance by a group of stocks classified as Stay at Home stocks relative to a group of Reopening stocks. Energy, Financials, Materials, Industrials and even Real Estate stocks have turned in strong year-to-date performances while Technology, last year’s winner, is among the laggards.

Reversionary moves in sectors are the normal course of business in the stock market. Hype builds up around one group of stocks and investors bid them up. A point is reached where the market digests the movements in the stocks to determine if the trend should continue higher, lower or if things are just right. As part of digesting the move in prices, other groups of stocks may come into investors’ focus and begin to be bid up. Often, investors take profits in the sector that initially ran up by selling shares, which pushes prices in that sector down. The investors then take those proceeds to buy shares in the newfound favorable sector, pushing prices higher. This is exactly what we’ve observed since the early fourth quarter of last year.

The moves we’ve observed thus far reflect an expectation of economic recovery and subsequent growth. If you pay any attention to market pundits/commentary you’ve probably heard the term reflation trade. A recession is a deflating of economic activity while a recovery is a reflating of economic activity. Once the economy gets back up to its previous peak level of output, prior to the recession, a new growth cycle begins. The question on everyone’s mind now is how much growth will the economy actually experience in a new growth cycle. This is where the bulk of disagreement among market participants exists today.

In what is always a highly uncertain environment, we have government stimulus, vaccines, presumably pent-up demand and other variables that make the future picture murky at best. The reflation trade has taken a breather over the past month while the laggards (Technology, in particular) have made up some ground. The market appears to be in another digestive phase. Trying to predict where we go from here is futile. Current valuations may fully reflect future growth. They may not. Future growth may end up being higher than anticipated. It may not. You’re not going to consistently predict what’s going to happen, either the actual event or the timing. I bring all of this up to emphasize the importance of balance (again) in your portfolio and your overall approach to investing. It’s not sexy, but it’s the path to long-term investment success.