In the last eight months, we have had a huge sea-change in what investors want out of the stock market, and it's so stark that we have to address it with every insight possible.
First, the only way to discern it is to go chart by chart, because without the visualization you simply can't understand the magnitude of the change. It is so stark when you examine the pictures, that you will wonder why you ever strayed from the winners.
Let me give you the 30,000-foot look and then drill down to what I think is happening to the stock market as a reflection of the economy and of the government. More than anything, it will help us address broader themes that are percolating underneath. I will do it in terms of groupings, judging by the overwhelming strength of each.
First and most stark is the incredible resurgence in finance as a leadership group. For ages, investors seem to favor only the financial technology stocks. Why? I would say primarily because the fed funds rate and the 10-year did not give the banks the margins they needed on deposits or loans. Given what was perceived as an inherent bias against growth, and therefore a definitive rise in short rates and a lack of inflection, investors gravitated to the payment processors and the insurance companies.
The former was easy to justify; the gains in Visa (V) and Mastercard (MA) and the like were all about consistent growth in an inconsistent sector, combined with a scarcity factor. Other than these two, Discover (DFS) , PayPal (PYPL) and a bunch of financial tech facilitators like Moody's (MCO) , S&P, Morningstar, it was simply too risky to go deep. As long as net interest margin became the be all and end all, and the net interest margin was subpar, there really was no reason to embrace either the big banks or the regionals, despite their consolidation given the dramatic drop-off in the creation of small banks.
All that changed when we got a consensus from the Fed that the tightening cycle is on because the health of the economy was no longer an issue. It is obvious from the strength in the banks, both big and not so big, that investors do not fear higher rates yet. They welcome them, despite endless --and wrong -- chatter that it would be the other way.
The fact that the adjacency of the housing stocks hasn't rolled over, at least not yet, is a sign of how we are just beginning to get a robust enough economy to be able to have actual loan growth.
Helping the situation? Deregulation. I believe the bank managements are beginning to take risks at the same time that loan demand is returning in some areas: consumer and small business loans. Still lacking? Any real construction or industrial loan growth, but that could be about to change. Meanwhile, the lack of supply in the group has grown palpable, as all of the banks have stepped up their buybacks.
I can't stress the importance of this, because they are just getting back to where they were when the Obama administration forced them to raise a ton of equity. They are now overcapitalized and have a much bigger share of the lending pie than anyone would have expected, especially the big four: Action Alerts PLUS charity portfolio holdings JP Morgan (JPM) and Citigroup (C) , Bank of America (BAC) and Wells Fargo (WFC) . All but Wells have now taken on the characterization of growth stocks. What a change.
Second group? Broader tech. One of the hallmarks of the tech stocks since the Great Recession is the limitation of what was working, namely FANG -- Action Alerts PLUS holding Facebook (FB) , Trifecta Stocks name Amazon (AMZN) , Netflix (NFLX) and Google parent Alphabet (GOOGL) . We had a scarcity, an intense scarcity, of growth tech names and Facebook, Amazon, Alphabet and to a lesser extent the much smaller Netflix had real growth. Of course, Apple's (AAPL) been a winning stock for ages, but as it rallies we see it more as a consumer company, not a tech company.
The change is led by Warren Buffett. Do not underestimate this. While Buffett was wrong in IBM (IBM) , he is proving prescient in with Apple. It had always been a trading stock -- witness how Carl Icahn destroyed it when he fretted about China -- and Buffett turned the narrative into one of a growth Procter & Gamble (PG) with a recognition of its razor-blade app model, something that is still underrecognized and sharply discounted. I think that's because the company itself seemed to have backed into it, which is odd because that would be like Gillette backing into the blade business by accident. Most of the analysts still can't get their arms around it.
What's changed? Simple: The internet of things has taken over and, given the coloration of the group, a far more secular than cyclical growth pattern. Also, the growth has transcended the cellphone and even, of late, re-embraced the personal computer of all things.
Once the IOT took over and the data center came to the fore as part of an overall redistributed cloud-based model and the connected car became a reality, it allowed a whole new group of tech stocks to go forward. I like to use the short-hand of stocks, and here the shorthand is three-fold: the Texas Instruments (TXI) /Analog Devices (ADI) /Nvidia (NVDA) cohort for the internet of things, including the industrial internet of things, the Adobe (ADBE) , Amazon (AMZN) , Alphabet, VMWare (VMW) , Microsoft (MSFT) cloud-based stocks and Qualcomm (QCOM) , Xilinx (XLNX) , Broadcom (AVGO) communications stories. All are in total growth mode and need companies like Lam Research (LRCX) and Applied Materials (AMAT) to stay secular because they can provide the machines that make the chips even more integral than they are already.
Companies that help any business be more digitized are gigantic winners. That means Workday (WDAY) , Service Now (NOW) , VMWare, Salesforce (CRM) and Accenture (ACN) . This is where IBM must force itself to be more relevant, something that Cisco (CSCO) has done so well. A default strategy? Cyber security, where Fortinet (FTNT) and Proofpoint are winners, but there seems to be plenty more room.
Next? The surprising health care stocks, whether they be the drugs or the distributors, or the hospitals, the insurers or the life sciences and device stories. I think this is all about a peculiar backlash out of Washington. We had understood that the Congress and the President were hell-bent on making this sector a smaller, less lucrative part of the economy, and when the Republicans failed to repeal and replace, investors piled back into the sector.
You would think with a booming economy this group would eventually fall by the wayside. Instead, the exact opposite has been happening: We have seen a resurgence, a remarkable resurgence of the formerly despised distributors, like McKesson (MCK) and Amerisource (ABC) , which had been the place to go when repeal and replace was not on the table. They are back.
I would point out that the drug stocks themselves are not the leaders, and only the twins of Abbvie (ABBV) and Abbott (ABT) seem to have been able to really inspire, with Johnson & Johnson (JNJ) being the overall leader of the stodgier drug companies.
The life science and medical devices companies like Danaher (DHR) , Thermo Fischer (TMO) , Illumina (ILMN) and the like really stand out as the odd leadership in the group. Biotechs are underrepresented, with the exception of Amgen AMGN, which has a voracious buyback. Generics look like comeback kids. UnitedHealth (UNH) is the obvious leader and must-buy of the group.
I will look at the rest of the sectors in Part 2 of this article, which Real Money will publish later today.
