What Are the Winning Sectors Now?

, The Motley Fool

During the first quarter, it seemed that cyclical companies were destined to rule the roost in 2011. How things have changed! Defensive stocks have come roaring back in the second quarter. Oil is well off its highs, and growth estimates are coming down in the U.S. and China. In that context, how do you want to position your portfolio?

The Numbers Tell a Simple Story

The numbers clearly show that fund managers have switched horses. For cyclical sectors, outperformance has given way to underperformance, and vice versa for defensive sectors:

Market Segment


Q2 (to May 23, 2011)

S&P 500 5.4% (0.6%)
Cyclical Sectors
Energy 16.3% (7.5%)
Materials 4.1% (4.9%)
Industrials 8.2% (2.3%)
Defensive Sectors
Consumer Staples 1.7% 6.9%
Health Care 5.0% 7.6%
Utilities 1.6% 5.3%

*As of May 23, 2011. Source: Standard & Poor's.

I sense that defensive sectors remain rich in opportunity. Over time, languishing stock prices and steady earnings increases have brought valuations down to levels that are difficult to ignore. Walmart's (WMT) price-to-earnings multiple is in the bottom 10% of its range over that past 10 years; so are those of Quest Diagnostics (DGX) and Constellation Brands (STZ).

It's no surprise, then, that hedge funds are beginning to rediscover the merits of the large-cap blue chips – many of which operate in defensive sectors -- as their appetite for risk tracks the declining expectations for economic growth. That flight to quality also shows up in the outperformance of large caps over small caps for the second straight month. (My Foolish colleague Matt Koppenheffer isn't on board. He explains why you shouldn't buy blue chips.)

Now, Rotate

Resurgent sovereign debt woes in Europe, slower growth, and the uncertainty linked to the end of QE2 could all be catalysts that force the market to revalue defensive stocks. Since that process is only beginning, stock pickers will find opportunity in these sectors. Even as this rotation into defensive sectors begins, there's no reason to exclude cyclical stocks wholesale. JPMorgan Chase (JPM) at 8.4 times forward earnings? Cyclical or not, that's got to be worth a look.

The Motley Fool owns shares of Walmart Stores and JPMorgan Chase. Motley Fool newsletter services have recommended buying shares of Quest Diagnostics and Walmart Stores, and recommended creating a diagonal call position in Walmart Stores. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Alex Dumortier holds no position in any company mentioned. Click here to see his holdings and a short bio. You can follow him on Twitter. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Hey Leebert

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May 28 2011 at 2:47 PM Report abuse rate up rate down Reply

I would stay away from purchasing Gold. There is a big bubble here in my opinion that will cost investors millions.
Equities is the place to be. As the markets fall, buy into sectors like technology, and large cap value funds. Health care sector is an ok place to be as well. Thats what I am doing. Also, buy up Lowes and Home Depot cheap here. You may have to wait a few quarters to profit from such a buy, but I think those who buy now will profit.

May 27 2011 at 12:37 PM Report abuse rate up rate down Reply
1 reply to jbluhm1951's comment

The markets real value is somewhere around 8000 and you think gold is in a bubble???
Typical market babble gold and assorted metals are commodity's and should always
be a part of your portfolio. Its those stocks I am not sure about??

May 28 2011 at 1:03 AM Report abuse rate up rate down Reply

if the fed stops buying bonds their price will fall as interest rises so sell now if you have treasuries.if the debt ceiling is not raised then the government will not be able to deficit spend then the dollar will rise if the dollar rises commodities priced in usd will fall that is petroleum probably also gold silver copper and others. if the debt ceiling rises than the treasury will borrow more money and spend it so commodites will rise . and if the fed continues to buy treasuries after the qe2 in large amounts it will i cause inflation . my bet is that the democrats will continue to spend beyound the taxing ability and the will borrow in order to do this so stay away from cash bond and especially treasuries buy if you must stocks and buy silver and gold as much as you can

May 26 2011 at 5:36 PM Report abuse rate up rate down Reply