A rising U.S. dollar, trade wars and the shift from growth to value stocks are some of the factors driving investors’ decisions these days. They are also issues that have the attention of Lori Calvasina, head of U.S. equity strategy, at RBC Capital Markets.
She is getting a little more domestic and defensive in her sector recommendations as a result. Calvasina uses bottom-up analysis and an S&P 500 sector scorecard to determine these calls, which recently included two upgrades.
“The case for certain defensives has improved,” the strategist said in research report.
Here are the U.S. sectors RBC thinks investors need to be in, and why.
1. LARGE CAP HEALTH CARE
(Upgraded to overweight from market weight)
Not only do valuations appear “deeply attractive” compared to the S&P 500, but ETF flows for the sector have stabilized recently, amid a broader rotation back into defensives.
Health care has a domestic revenue bias, making a strong U.S. dollar and trade fears less of a threat.
Drug pricing policy is reflected in current valuations, and large cap value investors should be attracted to the sector because they are typically overweight, but have been neutral of late.
“We think this sector holds appeal for both large cap value investors (given its attractive valuations) and large cap growth investors (when they start to seek alternatives to crowded and expensive technology names),” Calvasina said.
“We see a more balanced risk/reward in small cap heath care, where valuations look extended and earnings quality has been deteriorating.”
2. Real Estate Investment Trusts (REIT)
(Upgraded to market weight from underweight)
An underweight rating is no longer appropriate because exchange-traded fund flows have returned to the sector, valuations are reasonable, and real estate investment trusts rank higher than both consumer staples and telecom in RBC’s recent analyst survey.
“Our staples, telecom and REITs analysts share concerns about fundamentals and margins,” Calvasina said. “However, our REITs team has a more favourable view of valuations.”
The sector is also less vulnerable to trade-related risks and a stronger U.S. dollar due to its domestic revenue bias.
“We are not overly worried about the impact of rising rates, as REITs have dramatically underperformed since the latest Fed tightening cycle got underway,” the strategist added.
The sector benefits from solid fundamentals and an improving oil price outlook, ETF inflows, positive macro tailwinds such as rising interest rates and inflation expectations, as well as the shift from growth to value stocks.
Energy has been demonstrating leadership in earnings and revenue growth revisions, and has the opportunity to benefit from both the buy-side and sell-side growing more bullish.
The sector boasts improving share buyback and dividend activity, is fairly valued versus the S&P 500, and benefits from policy tailwinds as geopolitical risk is a positive for oil prices.
In addition to ranking well in RBC’s June 2018 analyst survey, the sector is poised to benefit from macro drivers, such as rising interest rates/inflation expectations, as well as the investor shift from growth to value.
Financials stand to gain in a rising U.S. dollar environment, have healthy earnings and revenue growth revisions, boast attractive valuations, and offer strong share buybacks.
The policy backdrop is also positive due to a less restrictive regulatory environment.
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