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History shows that defensive sectors can underperform during broad market pullbacks, albeit it has not occurred frequently. In the past 53 years, there were 12 periods when the S&P 500 corrected by at least 10% (excluding bear markets associated with recessions). Health care stocks underperformed during four out of these 12 occasions. In two of these periods, the health care sector had been outperforming heading into the broad market setback. Consumer staples trailed the broad market one-quarter of the time during these overall market pullbacks, but had only been outperforming leading up to the correction on one occasion. Telecom services lagged twice, while utilities trailed only once, albeit after a period outperformance, as has recently been the case.
The message is that it would not be unprecedented for defensive sectors to underperform when the broad market is suffering losses. Thus, while it is tempting to label many non-cyclical sectors as providing ‘safe’ exposure to equities owing to their yield and diminished economic-sensitivity, there are risks to this strategy that may not be fully appreciated.
Our Cyclical Macro Indicators, valuations and technical trends all argue for maintaining a portfolio strategy focused on global cyclical sectors and groups, while de-emphasizing many ‘defensive’ areas that have been bid up into overshoot territory.
This post was originally published by the BCA Research blog.