Strategy: Untouched by the 2008 crisis

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10/22/2018 | 02:09 pm
This is the second part of our review of the economic sectors since the beginning of the subprime crisis. It shows that performance is very disparate within the same type of securities (cyclical, defensive, discretionary, consumer discretionary, consumer staples) over the last 11 years. We look back at four preconceived ideas.
We have seen in the first part of our review that the stocks that offered the strongest increases between the high pre-crisis financial peak for France, on June 1, 2007 and October 10, 2018, are part of the consumer discretionary pocket with 67% of overall growth, ahead of core consumption (+57%) and defensive (+1%). Cyclicals (-29% close the gap). STOXX Europe 600 (SXXP) lost -9% over the period (but increased by 25.7% reinvested dividends, SXXR). This breakdown therefore gives prominence to stocks with high leverage in boom times (discretionary consumption) and those that are theoretically moderately correlated to economic cycles without being totally insensitive to them (basic consumption). In reality, the ranking by company reveals some surprises and shows that within the same pocket, performance can be extremely disparate. The objective of this decoding is to understand the underlying movements by refining the initial reading. For the purpose of the demonstration, the initial color code has been retained: green for cyclicals, red for defensive purposes, blue for consumer staples and orange for discretionary consumption.
 

Reminder of the gross performance of the indices over four periods (as of October 10-Click to enlarge)
 
 
Common misconception number 1: Cyclicals have largely underperformed.

Overall, this is the general impression, but this weak performance can be blamed on only one sector: financials (and to a much lesser extent telecom equipment manufacturers, Ericsson and Nokia).

28 of the 50 largest declines in the four indices combined are financials, including 8 of the top 10. Four other sectors also largely underperformed, but did not fall into negative territory: commercial land, employment services, industrial conglomerates and steel.

The best overall performance of cyclicals is to be found in technologies (excluding telecom equipment manufacturers): both IT services companies and semiconductors or software.

The sector does not have any decrease in 22 representatives.

Rate of decrease: 21% (66 out of 309)

Conclusion: The subprime crisis laminated most of the major European banks, except for a few Scandinavian players. As a result, the good performance from most of the other cyclicals was hidden.


Common misconception number 2: defensive action is not very useful.

Again, we have seen significant disparities among sub-sectors since June 2007. Clearly, if you had invested your capital in telecoms and utilities, playing defensive was a poor calculation. There are 6 defensive cases among the 30 worst performances: 2 Telecom (KPN and Telecom Italia), 4 Utilities (RWE, E.ON, EDF and Veolia).

We find, which is rather strange, 8 defensive among the 20 strongest increases - all pockets combined - since June 2007. You may have anticipated this, 7 of them are related to Health. More precisely, they are essentially growth laboratories or companies operating in the medical equipment sector.

In the first part of this study, we specified that the selection of defensive stocks by the STOXX included a minority of insurance stocks. If you absolutely wanted financials in your portfolio, you had to turn to them because this sub-pocket has largely outperformed the market. It is composed of reinsurers (Hannover Re, Scor...) and highly specialized players and brokers (Beazley, Hiscox, Jardine Lloyd...).

Rate of decrease: 10% (11 out of 114)

Conclusion: A good understanding of the major sectoral issues is required. The deep crisis in energy production has weighed heavily on the defensive virtues of the stocks making up the index. On the other hand, Health has taken advantage of a new momentum to take the lead.


Common misconception number 3: basic consumption shows a homogeneous performance.

This is almost true, except for mass distribution. There are only 3 cases in the sector among the 80 largest decreases in Europe, but these are Carrefour, Tesco and Sainsbury. But it is not an exact science: Jeronimo Martins, ICA Gruppen and even Ahold Delhaize outperformed the market over the period.

There is no value in the sector among the 37 largest increases over the period. AAK and Royal Unibrew are the first two cases to appear in 38th and 39th place.

Rate of decrease: 10% (4 out of 41).

Conclusion: Once again, the deep changes within a sector has had a significant impact. Traditional distributors, faced with challenges linked to digitalization and increased competition, have now all reacted. But some did so later than others and suffered the consequences.


Common misconception number 4: All discretionary consumption benefited from the long uptrend in the markets

Of the 30 sharp declines in the market from June 2007 to October 2010, only one came from the consumer discretionary goods sector: Peugeot. Most of the sector's declines are linked to the British automotive or construction industries.

Among the large caps, cases at the forefront include LVMH and Kering.

Rate of decrease: 11% (9 out of 83).

Conclusion: Discretionary consumption experienced a very favorable period between 2007 and 2018, particularly in luxury goods but more broadly in leisure or specialized distribution. In the automotive sector, performance is very disparate and favors equipment manufacturers over automakers.


To conclude, it therefore appears that each category of securities has its own specific features, but that all are likely to generate high returns in the long term. On the other hand, it is important to identify sectors that are undergoing major changes or overexposed to certain major macroeconomic events, which may be sources of significant underperformance. This is the case for banks since the summer of 2007 or for the energy sector over the past decade: neither of them has yet recovered. The long-term investor has always been rewarded, but he must also know how to avoid the big sectoral traps.
 
Romain Fournier
MarketScreener.com 2018
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