Are “Defensive Names” the Safe Way to Wall Street?

Produced by: Hisham Mugane

Investors looking for safe havens in the U.S. stock market are finding that traditional havens that sold last year, such as consumer staples, utilities and health care, may be more problematic this time around. It prompted them to seek so-called security

“Defensive names”, which typically generate strong profits, and in companies that are going through tough times.

Easy strategy

After a sharp recovery in January, the S&P again saw volatility. Investors fear that the Federal Reserve will raise interest rates higher than previously expected, raising interest rates for a longer period of time to control inflation.

“Hiding behind defensive stocks was a very easy and successful strategy last year, but I think it will be more complicated this year,” said Anthony Sagalmben, chief market strategist at Amerprise Financial.

In the early weeks of 2023, that bearish argument softened as evidence that the economy remained strong and competition from assets such as short-term U.S. Treasuries and money markets yielded higher returns.

Expensive assessment

Sectors such as utilities are called “bond agents” because they typically provide the same level of returns and security that government bonds have done in the past. But when combined with the fact that some defensive stocks have relatively expensive valuations, investors may avoid these sectors even as the broader market declines.

In addition, “Utilities”, “Healthcare” and “Consumer Goods” registered relatively small declines of about 1% to 3.5% from the start, after maintaining their stability amid intense markets last year. Among the 11 sectors in the “Status and Poor” index, as of Thursday’s close, they fell by 8%, 6% and 3% respectively.

Fears of a recession fueled by the central bank’s rapid rate-hike cycle swept markets last year, and investors gravitated toward the defensive, hoping spending on medicine, food and other essentials would continue despite the economic turmoil. But recent strong economic data, including a positive January jobs report that added 517,000 jobs, prompted a revision to expectations of an imminent slowdown.

In turn, Matthew Miskin, chief strategist at John Hancock Investment Management, said: “If you look at the stock market, it tells you that there is basically no risk of a recession,” and “Defensive name trading has been painful this year. .”

Dividend returns

While the health of the US economy will release the much-anticipated February jobs report next Friday, investors will be watching Federal Reserve Chairman Jerome Powell’s testimony before Congress next Tuesday and Wednesday.

Meanwhile, high dividend yields have helped defensive stocks become a place to stash money during turbulent times over the past decade, especially when traditionally safe assets have underperformed. Until this dynamic changes in 2021; Rising inflation and the Federal Reserve raising interest rates pushed up cash and Treasury yields.

Last week, the utilities sector had an attractive dividend yield of 3.4%, basic materials 2.7%, and health care 1.8%. Six-month US Treasuries yield about 5.2%.

But in some cases attractive reviews are also expensive. The utilities sector trades at 17.7 times forward earnings estimates, nearly 20% above the stock’s historical average. The stock trades at a price-to-earnings ratio of 20 times, which is about 11% higher than the historical average. The cost-benefit ratio for health care was 17 times, slightly below the historical average. However, the financial outlook for the sector remains relatively weak this year, and healthcare revenue for the S&P is expected to fall 8.3%, compared to a 1.7% increase for the overall index, according to Refinitiv data.

Bond Redemption

Of course, there are other factors that help bolster the prospects of defensive names as safe havens within markets. An example is the resurgence of positive volatility in the bond market, according to Mark Hackett, head of National Investment Research. Who said: “Now you can get more attractive returns in the bond market than in the past”.

If recession fears increase, investors suggest that defensive performance may once again outperform on a proportional basis, as it did last year. Among them is Amerprise Financial’s Saglumbin, who points to bonds as a better hedge today than traditional defensive sectors.

Most important economic events of the current week:

Monday

10:00 Factory orders

tuesday

10:00 Testimony of the Federal Reserve Chairman before the Senate

10:00 January Total Inventory Status

15:00 Consumer Credit Index

Wednesday

8:15 ADP employment data

8:30 US trade balance

10:00 Testimony of the Federal Reserve Chairman before the House of Representatives

10:00 Employment and labor income survey

14:00 “Beige” book report for markets

Thursday

8:30 Unemployment claims

10:00 Speech by Federal Reserve Governor Christopher Waller

Friday

8:30 February Jobs Report

8:30 US unemployment rate

14:00 Central Budget