by Rachel Annis
  Equity Analyst, Gradient Analytics LLC (a Sabrient Systems company)

 “Only time can heal what reason cannot.” – Lucius Annaeus Seneca

In response to the pandemic-driven economic downturn, both Congress and the Federal Reserve have intervened with fiscal and monetary support in the form of direct subsidies, loans, bailouts, tax rebates, supplemental unemployment benefits, ultra-low interest rates, support of capital markets, reduced regulatory constraints, and quantitative easing (QE). The Fed expanded its purchase program beyond Treasury bonds to also include municipal bonds, corporate bonds of both investment and speculative grade, as well as ETFs for the first time. While these policies can raise aggregate demand, employment, and investment in the short run, excess liquidity also supports inefficient firms that otherwise might not survive. The increased prevalence of these firms, as well as the valuation metrics at which their stocks trade can muddy the waters for analysts and thus contribute to a misallocation of capital. These firms also weigh on productivity growth going forward.

Because the downturn was spurred by the pandemic rather than the typical overheated economy and inflation, it has yielded several surprises for investors. For instance, despite unemployment reaching record levels, consumers spent more than expected on home repairs and remodeling which boosted sales at stores like Home Depot (HD) and Lowe’s Companies (LOW). Likewise, residential home sales have surged despite escalating unemployment. An intuitive expectation of an inverse relationship between the two would be incorrect, at least thus far. Outperformance of online retailers, like Amazon.com (AMZN), over some traditional recessionary picks, like Procter & Gamble (PG), has also been unexpected. Moreover, this was the first recession that drove people to spend more time outdoors, giving a boost to firms like sports vehicle maker Polaris (PII). However, the question to ask is:  Is this burst of COVID-driven growth anomalous and short-lived, or is it sustainable?

Another aspect to highlight is the conjectural nature of forward estimates and current valuations. The wild swings in near-term consensus estimates between earnings cycles seem to be highly speculative and largely based on the latest news headlines rather than analysis of underlying firms’ fundamental metrics. Similarly, it appears that some previously struggling firms are getting an unsustainable boost by pivoting to create products that help customers deal with COVID-19 impacts. In this article, I explore examples of two firms for which analysts anticipate rising near-term growth rates specifically driven by COVID-19 related tailwinds that we do not believe are sustainable longer-term. Read on....

  by Scott Martindale
  President, Sabrient Systems LLC

The major cap-weighted market indexes continue to achieve new highs on a combination of expectations of interest rate cuts and optimism about an imminent trade deal with China. Bulls have been reluctant to take profits off the table in an apparent fear of missing out (aka FOMO) on a sudden market melt-up (perhaps due to coordinated global central bank intervention, including the US Federal Reserve). But investors can be forgiven for feeling some déjà vu given that leadership during most of the past 13 months did not come from the risk-on sectors that typically lead bull markets, but rather from defensive sectors like Utilities, Staples, and REITs, which was very much like last summer’s rally – and we all know how that ended (hint: with a harsh Q4 selloff). In fact, while the formerly high-flying “FAANG” group of Tech stocks has underperformed the S&P 500 since June 2018, Barron’s recently observed that a conservative group of Consumer sector stalwarts has been on fire (“WPPCK”) – Walmart (WMT), Procter & Gamble (PG), PepsiCo (PEP), Costco (COST), and Coca-Cola (KO).

This is not what I would call long-term sustainable leadership for a continuation of the bull market. Rather, it is what you might expect in a recessionary environment. When I observed similar behavior last summer, with a risk-off rotation even as the market hit new highs, I cautioned that defensive stocks would not be able to continue to carry the market to new highs (with their low earnings growth and sky-high P/E ratios), but rather a risk-on rotation into cyclical sectors and small-mid caps would be necessary to sustain the uptrend. Instead, the mega-cap Tech names faltered and the market went into a downward spiral. Many analysts and pundits have been forecasting the same for this year.

But when I hear such widespread pessimism, the contrarian voice in my head speaks up. And indeed, the FAANG names – along with powerhouse Microsoft (MSFT) and cyclicals like Semiconductors, Homebuilders, and Industrials – have been showing leadership again so far this year, especially after that historic market upswing in June. Rather than an impending recession, it seems to me that the US economy is on solid footing and “de-coupling” from other developed markets, as First Trust’s Brian Wesbury has opined.

The US economic expansion just became the longest in history, the latest jobs report was outstanding, unemployment remains historically low, business and consumer confidence are strong, institutional accumulation is solid, and the Federal Reserve is a lock to lower interest rates at least once, and more if necessary (the proverbial “Fed Put”). Indeed, the old adages “Don’t fight the Fed!” (as lower rates support both economic growth and higher equity valuations) and “The trend is your friend!” (as the market hits new highs) are stoking optimism and a critical risk-on rotation, leading the S&P 500 this week to touch the magic 3,000 mark and the Dow to eclipse 27,000. If this risk-on rotation continues, it bodes well for Sabrient’s cyclicals-oriented portfolios.

In this periodic update, I provide a detailed market commentary, offer my technical analysis of the S&P 500, review Sabrient’s latest fundamentals based SectorCast rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. In summary, our sector rankings look neutral to me (i.e., neither bullish nor defensive), while the sector rotation model retains a bullish posture. Read on…

That’s been hard to figure lately.  Uncertainty has not eased.  Not in Europe.  Not in the Middle East. Not in China or Japan. Not in the U.S., with a dead-heat election battle and unknown future Congressional dynamics.  Companies overall continue to beat earnings, mostly, and miss on revenues.  Now there is a certainty: earnings cannot keep going up if revenues keep going down.

Our thundering herd of baby bulls struggled mightily last week to stay clear of that gloomy channel, and at one time the S&P 500 threatened to cross back under its 50-day moving average, but it ended the week about where it started.