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Market View

Investors have mostly shaken off recent earnings misses from FAANG names in pursuit of other growth opportunities.

 

In Brief

  • U.S. large-cap tech stocks propelled U.S. markets higher in 2017 and the first half of 2018, driven primarily by the so-called FAANG stocks.
  • In late July 2018, FAANG components Facebook and Netflix reported surprising earnings misses, leading to a sell-off in the tech sector.
  • Fears of an unwinding of the growth trade have not been realized, as investors rotated out of tech and into other growth segments of the U.S.market.

 

Disappointing second quarter earnings from two of the high-flying FAANG companies (Facebook and Netflix) led to a brief market sell-off in July 2018, fueling fears of an unwinding of the “growth” trade that has driven markets higher since the start of 2017. (FAANG is a popular acronym for five high-performing technology stocks: Facebook, Amazon, Apple, Netflix, and Google [now Alphabet, Inc.].)

These fears appear to be unfounded, however, as growth investors have mostly shaken off the earnings misses, bypassing these underwhelming big-name tech stocks in favor of still compelling opportunities in the healthcare and consumer discretionary sectors.

 

Table 1. Recently, Health Care and Consumer Discretionary Have Been Outpacing Tech
Returns from July 25, 2018–August 13, 2018

Source: Russell indexes. Technology=Russell 3000® Technology Index. Health Care=Russell 3000® Health Care Index. Consumer Discretionary=Russell 3000 Consumer Discretionary Index. Russell 3000=Russell 3000® Growth Index.
Past performance is not a reliable indicator or guarantee of future results. Performance during other periods may have been different. Other indexes may not have performed in the same manner under similar conditions. For illustrative purposes only and does not represent any specific portfolio managed by Lord Abbett or any particular investment.

 

The continued outperformance of these two growth sectors suggests continued investor demand for fast-growing, fundamentally strong companies.

  • As of August 10, 2018, according to FactSet, the healthcare sector has seen the greatest percentage of companies report second quarter revenues above consensus estimates (83%) and the second greatest percentage of companies report earnings above consensus estimates (95%), lagging only the telecommunications sector.
  • Despite the disappointing results from two of the FAANGs, information technology ranks high on both these metrics as well, with 82% of companies beating consensus revenue estimates and 90% beating consensus earnings estimates (ranking as the second and third best sector on each metric, respectively).
  • And, finally, while results from the consumer discretionary sector as a whole have been mixed, no sector has seen its companies beat consensus earnings estimates by as much on average, with the average consumer discretionary company beating estimates by 9% implying that the most fundamentally strong companies within the sector are growing substantially faster than investors anticipated.

For investors, the ongoing outperformance of these secular growth areas of the market, despite the fizzling of the FAANG trade in recent weeks, should come as no surprise. As we have laid out in past Market Views, from modern medicine to e-commerce, rapid technological innovation is disrupting industries worldwide, creating opportunities for growth investors beyond just the FAANGs.

In fact, while large-cap tech (as represented by the Russell 1000® Technology Index) has been a leading driver of market returns over the past year and a half, it may surprise investors to learn that it has not been the leading segment of the market during this period. That honor would go to small-cap health care, led by fast-growing biotech companies with strong pipelines of innovative treatments—just one example of the compelling growth investment opportunities that reside across the market landscape today.

 

Chart 1. Small-Cap Health Care Has Delivered Tech-Like Performance Since January 2017
Cumulative returns, January 1, 2017–August 1, 2018

Source: Russell indexes.  Past performance is not a reliable indicator or guarantee of future results. Performance during other periods may have been different. Other indexes may not have performed in the same manner under similar conditions. For illustrative purposes only and does not represent any specific portfolio managed by Lord Abbett or any particular investment.

 

Glossary

The Russell 3000® Growth Index measures the performance of those Russell 3000 Index companies with higher price-to-book ratios and higher forecasted growth values.

The Russell 1000® Technology Index is a large-cap subset of the Russell 3000® Technology Index, which measures the performance of those Russell 3000 companies with higher price-to-book ratios and higher forecasted growth values.

The Russell 2000® Health Care Index is a small-cap subset of the Russell 3000® Health Care Index , which measures the performance of those Russell 3000 companies with higher price-to-book ratios and higher forecasted growth values.

The Russell 3000® Consumer Discretionary Index measures the performance of those Russell 3000 Index companies with higher price-to-book ratios and higher forecasted growth values.

IMPORTANT INFORMATION

Risks to Consider: Keep in mind that all investments carry a certain amount of risk including possible loss of the principal amount invested. No investment strategy, including diversification and asset allocation, guarantees a profit or protects against a loss. Stock markets and investments in individual stocks are volatile and can decline significantly in response to issuer, market, economic, industry, political, regulatory, geopolitical, and other conditions. While growth stocks are subject to the daily ups and downs of the stock market, their long-term potential as well as their volatility can be substantial.  Investments in smaller companies may involve greater risks than those in larger, better known companies.

References to specific securities and issuers are for illustrative purposes only and are not intended and should not be interpreted as recommendations to purchase or sell such securities. The securities referenced may or may not be held in portfolios managed by Lord Abbett and, if such securities are held, no representation is being made that such securities will continue to be held.

This commentary may contain assumptions that are “forward-looking statements,” which are based on certain assumptions of future events. Actual events are difficult to predict and may differ from those assumed. There can be no assurance that forward-looking statements will materialize or that actual returns or results will not be materially different from those described here.

Indexes are unmanaged, do not reflect the deduction of fees or expenses, and are not available for direct investment.

No investing strategy can overcome all market volatility or guarantee future results.

Statements concerning financial market trends are based on current market conditions, which will fluctuate. There is no guarantee that markets will perform in a similar manner under similar conditions in the future.

The information provided is not directed at any investor or category of investors and is provided solely as general information about Lord Abbett’s products and services and to otherwise provide general investment education. None of the information provided should be regarded as a suggestion to engage in or refrain from any investment-related course of action as neither Lord Abbett nor its affiliates are undertaking to provide impartial investment advice, act as an impartial adviser, or give advice in a fiduciary capacity. If you are an individual retirement investor, contact your financial advisor or other fiduciary about whether any given investment idea, strategy, product or service may be appropriate for your circumstances.

The opinions in Market View are as of the date of publication, are subject to change based on subsequent developments, and may not reflect the views of the firm as a whole. The material is not intended to be relied upon as a forecast, research, or investment advice, is not a recommendation or offer to buy or sell any securities or to adopt any investment strategy, and is not intended to predict or depict the performance of any investment. Readers should not assume that investments in companies, securities, sectors, and/or markets described were or will be profitable. Investing involves risk, including possible loss of principal. This document is prepared based on the information Lord Abbett deems reliable; however, Lord Abbett does not warrant the accuracy and completeness of the information. Investors should consult with a financial advisor prior to making an investment decision.

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