Time to Reconsider Sector Weights

 | Dec 04, 2013 | 10:00 AM EST
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As we get into full swing in the Christmas shopping season, all eyes will be on retailers, as they are the canary in the coal mine for the U.S. consumer economy.

My own contrarian investment philosophy has been to seek out ideas where people are not looking! Rather than follow the crowd, I want to lead it. So as investors dissect retail and consumer, are there other sectors that will be ignored for the next month, yet which could produce decent returns?

Whenever I pose a question like that, regular readers will know my first (of several steps) is to fire up my trusty FactSet and do some quick screening in order to create a manageable set of leads to follow. Today, I dissected the S&P 500 to find the sectors with the best earnings momentum -- which is critical to identifying the potential for quick gains -- and the best valuations.

Especially now, I get the sense that investors are growing a bit wary of this rally, due to a lack of earnings support. In a market where investors have one eye on the exit, groups with low valuations obviously offer a greater margin of safety.

The table below summarizes the earnings momentum and valuations for the major groups in the S&P 500.

Looking at the data can often produce surprises. I did not expect to see non-energy minerals as the best group for earnings momentum, but evidently miners are getting their mojo back! The group is led by Freeport-McMoRan Copper and Gold (FCX) and Cliffs Natural Resources (CLF). Naturally, you should be careful with miners, as sentiment can turn on a moment's notice. But for now the inflation being produced by Fed largesse seems to be supporting the group. By the way, the valuation is extremely high for the group, so that is a red flag, but I am a bit forgiving because valuations are always high at turning points in the cycle.

Consumer durables have better than average earnings (remember the number is a ranking, with 1 the best and 10 the worst; as a group they will cluster in the middle, so even single digit differences are meaningful). This group is led by the automakers -- mainly Ford (F) -- consumer hard goods like Whirlpool (WHR), and of course Mattel (MAT), which is a Christmas play.

The final group to go hunting for long ideas is health technology, which translates into pharma and medical devices. Robust results from new-school biotech names like Regeneron (REGN), Gilead Sciences (GILD) and Biogen Idec (BIIB) are leading the way. This group is not expensive as a group, but when you dig you will find that the higher growth names do sport higher multiples.

I have been participating in the consumer durables and health tech but have been absent from non-energy minerals. It is time for me to rethink my sector weights -- an important exercise as we head into the home stretch of 2013!

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