By Wallace Witkowski, MarketWatch
SAN FRANCISCO (MarketWatch) -- As the S&P 500 continues to
move higher into uncharted territory, strategists are suggesting a
less broad-based approach when it comes to stocks -- some as a
cautionary measure, others out of a sense that returns are growing
stale.
Even though the S&P 500 closed at a record high Friday,
gains across the board were slight with both the Dow Jones
Industrial Average (DJI) and S&P 500 Index (SPX) up 0.2%, and
the Nasdaq Composite Index (RIXF) finishing up less than 0.1%.
If those gains are already showing signs of fatigue, then
upcoming headwinds may blow the broader stock market off course. In
October, the Fed will end its bond purchase program. Not only will
that increase speculation of when in 2015 the Fed will hike
interest rates but this will all happen around the midterm
elections, when markets are traditionally volatile.
September complacency = October pain?
Ever since the Fed started quantitative easing, critics have
said easy money policy has produced artificially-high stock
prices.
Brian Belski, chief investment strategist at BMO Capital
Markets, thinks the lack of easing and a more hawkish Fed may
unsettle investors that have become accustomed to recent
returns.
"For instance, the S&P 500 has averaged a nearly 20%
annualized return during all three QE programs and only about 6.5%
when the Fed was not buying bonds," Belski said in a recent
note.
That's part of the reason Belski maintains his 1,900 year-end
price target for the S&P 500. He favors tech stocks,
financials, and industrials, and shies away from telecoms and
utilities.
More importantly, Belski points out that the two largest
corrections of the current bull market occurred when QE1 ended in
March 2010 and QE2 ended in June 2011.
On top of that, monthly investor sentiment saw its
second-highest bullish reading since November 2005 in August,
Belski said. If sentiment remains high in September, that could
spell a rude awakening in October.
Where's all the alpha gone?
In the meantime, two of the biggest investment firms, Goldman
Sachs and Morgan Stanley, are suggesting slightly different takes
on how to shift away from a broader-based approach and gain some
much-needed alpha.
In a recent note, Goldman pointed out that only 23% of large-cap
core mutual funds were outperforming the S&P 500, compared with
the average 37% since 2003, and that hedge funds have struggled
with an average return of 2% for the year to date.
Managers of those funds are looking for a way to boost
performance by the end of the year, and that will likely result in
picking stocks that have either high beta, high price momentum, or
popularity among investors.
Given this, Goldman recommended 15 stocks including so-called
"momentum" stocks like Facebook Inc. (FB) and Netflix Inc.
(NFLX)
Morgan Stanley expressed similar concerns in a recent note, that
alpha generation has fallen off as most hedge funds are chasing the
S&P 500, a correlation that has steadily risen since the
mid-1990s.
Morgan Stanley is recommending investors choose growth stocks
over value stocks as the beta on the two classes have become
similar. When it comes to valuations, however, value stocks are
looking more expensive than growth stocks, the firm said.
Some of the growth industries that fit this profile include auto
components, communications equipment, health care providers and
services, along with aerospace and defense, Morgan Stanley
said.
This year has shaped up to be one where it pays to be very
focused on a few parts of the market rather than the S&P 500 as
a whole, said Paul Nolte, portfolio manger at Kingsview Asset
Management.
"Like the old adage goes, 'If you were diversified, you were
crucified,' it paid to be focused on a few parts of the market like
tech, health care, and biotech," Nolte said.
While the S&P 500 is up 8.6% on the year, translating into
an SPDR S&P 500 ETF Trust (SPY) up 8.9%, the Health Care Select
Sector SPDR Fund (XLV) is up nearly 16% for the year, and the
Technology Select Sector SPDR Fund (XLK) is up nearly 13%. The
iShares Nasdaq Biotechnology ETF (IBB) , while about 2% down in the
past week, is up more than 19% for the year.
Even with those outperforming gains on the year, Nolte still
likes tech and healthcare stocks going forward.
Week sees a smattering of earnings reports
While earnings season has more or less ended, a few companies
will be reporting quarterly results in the coming week.
S&P 500 components Campbell Soup Co. (CPB) and Kroger Co.
(KR) report this week.
Also reporting this week are Barnes & Noble Inc. (BKS) ,
Krispy Kreme Doughnuts Inc. (KKD) , Palo Alto Networks Inc. (PANW)
, Men's Wearhouse Inc. (MW) , Restoration Hardware Holdings Inc.
(RH) , Lululemon Athletica Inc. (LULU) , and Darden Restaurants
Inc. (DRI) .
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