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Looking Beyond Mega-Cap Stocks to Find Opportunities in Equities
- In September, investor sentiment shifted away from expensive mega-caps toward pockets of the market that have long been out of favor.
- This shift has expanded the potential opportunity set for equity investors seeking reasonably priced, good-quality stocks with positive sentiment.
Over the past quarter, we’ve remarked on the extent to which expensive and high-sentiment stocks were becoming more and more concentrated in the listed equity market, driving a larger and larger share of the index returns. Stocks with reasonable valuations languished, while those benefiting from positive sentiment hurtled upward. This gap accelerated over the second and third quarters of this year, increasingly narrowing our options in our search for companies that “tick all the boxes”1 – and we cautioned that investors should be wary of these market extremes.
During September, we saw a decided departure from this trend, as mega-caps’ share prices moved away from their highs and dropped meaningfully compared with the index.2 While this cohort of companies remains expensive and market sentiment associated with them is still high, the recent price retracement has created some new opportunities.
We’re currently seeing sentiment pick up in some pockets of the market that have long been out of favor. Investors are starting to look beyond current trends to find attractive investment opportunities. This matters, because it means that we can now find more companies that tick all of our boxes.
A Sector View
Improving investor sentiment3 is leading to renewed opportunities in some industrials, materials, and consumer discretionary stocks. Figure 1 shows the proportion of stocks in each industry group that have experienced a meaningful improvement in sentiment during September, along with the proportion of stocks within the industry group that have had a meaningful decline in sentiment. This reveals improving sentiment in a large part of the universe in Autos, Consumer Durables, Transportation, Retailing, Materials, Commercial Services, and Capital Goods.
The Bottom Line
Investors are starting to divert their attention away from the expensive, mega-cap technology and consumer stocks that have dominated the market in recent months. This, in turn, has expanded the universe of potentially attractive stocks, as more reasonably-priced names are now starting to benefit from improved investor sentiment. As we’ve noted in recent commentaries, extreme market conditions warrant caution. This month, we observe that a shift away from those extremes can offer affirmative opportunity for equity investors.
1In Active Quantitative Equity, we look for high-quality, sustainable companies that are reasonably priced with respect to relevant fundamentals, with improving earnings outlooks and positive investor sentiment.
2The ten largest companies in the high-sentiment quintile that are also in the two most expensive value quintiles experienced an average return of -6.2% during September. This group includes Apple, Microsoft, Amazon, Facebook, Nvidia, Adobe, Netflix, Salesforce.com, Paypal, and SAP. Source: Refinitiv, as of 30 September 2020.
3In Active Quantitative Equity, we measure market sentiment by looking at price changes in stocks, changes to earnings estimates, hedge fund positioning, movements in sentiment linked through the supply chain, and analysis of language used in conference call transcripts.
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Exp. Date: 10/31/2021