In 2015, technology and financial sector stocks outperformed the broader market. One major reason for this was the sector rotation out of energy. As commodity prices plunged, investors favored technology and financials as a safer place to invest. Financials in particular were boosted by the expectation of rising interest rates.
2016, however, is getting off to a much different start. The sectors that led the way last year, technology and financials, are the laggards this year. Fears of declining global economic growth, and a possible delay in interest rate hikes, are causing investors to sell out of technology and financials. Going forward, investors should expect the selling pressures to continue as investors rotate out of last year’s leaders into new safe-haven sectors like telecoms and utilities.
2015's Leaders Are 2016's Laggards
Two of the top sector performers last year, technology and financials, are starting out as some of the biggest laggards this year. The Technology Select Sector SPDR ETF (XLK ) and the Financial Select Sector SPDR ETF (XLF ) are down 4% and 9%, respectively, year to date. This is not surprising. Technology and financials are two of the most economically sensitive sectors. Since the beginning of 2016, disappointing economic data points in the U.S., and especially abroad, have fueled fears of a global economic recession.
Financials are being punished specifically because investors now doubt that the Fed will remain on its course of higher interest rates. Low rates hurt financial stocks because they earn smaller net interest spreads when rates are low.
In addition, health care is turning into a laggard as well. The Health Care Select Sector SPDR ETF (XLV ) is down 8% year to date. Health care is suffering from heightened regulatory risk. Biotech stocks in particular have been hit hard this year by fears that the 2016 election winner will pursue a course of stronger regulation for prescription drug prices.
The market is clearly scared about what the rest of this year holds. As a result, investors are seeking relative safety. Below are two sectors that investors can use to benefit from the flight to safety.
Top Sector Bets for 2016
The biggest sector winners thus far in 2016 are utilities and consumer staples. The Utilities Select Sector SPDR ETF (XLU ) and Consumer Staples Select Sector SPDR ETF (XLP ) are up 5% and 1%, respectively, since the beginning of the year. This is notable outperformance as the S&P 500 Index as a whole is down 10% year to date.
Mutual fund flows reflect the changing investor sentiment. For example, the Utilities XLU ETF saw $439 million in net inflows in the one week ending Thursday, February 4. That was a 6% increase in assets under management.
The flight to safe havens makes sense. Utilities and telecommunications stocks are historically known to be steady generators of reliable profits. These companies also typically pay above-average dividends to shareholders. When fear sets in and the markets decline, recession-resistant sectors with high dividend yields come into favor. Indeed, XLU and XLP yield 3.5% and 2.5%, respectively. In comparison, the S&P 500 yields 2%. That means investors can receive 75% and 25% more income by buying the XLU and XLP funds.
The Bottom Line
Investors are selling out of the technology, financials, and health care sectors as fears mount of global recession this year. Fund outflows reflect the negative sentiment.
When markets are volatile and stock prices decline, investors tend to chase dividend yields and relative safety. Utilities and consumer staples offer those benefits since consumers need to keep the lights on and continue to buy staple products, regardless of the condition of the broader economy.
The bottom line is that investors who anticipate a global recession in 2016 should reposition their portfolios toward safe-haven sectors like utilities and consumer staples.