A Tuesday pause aside, it’s been a rough week or so for technology shares, which have been the victim of a violent rotation that’s seen investors flee what’s been by far the hottest sector of 2017 for companies expected to get a bigger boost from tax legislation working its way through Congress.
Meanwhile, telecom shares, which have been the worst-performing sector of the year, were world beaters last week. And financials, which were also laggards, have also enjoyed a shot in the arm.
The tables below, highlighted in a note by Liz Ann Sonders, Charles Schwab & Co.’s chief investment strategist, contrast the performance of the S&P 500’s 11 main sectors in 2017, divided before and after Nov. 27, the day before tech stocks began their “swift reversal” from their leadership perch, through the end of last week.
The rotation continued Monday, with the Nasdaq dropping more than 1% and the S&P 500 tech sector falling nearly 2%.
The shift last week was historically unique. Citing data from Cornerstone Macro, Sonders observed there have only been eight instances since current S&P sector data began in 1989 when technology shares fell 2% or more in the same calendar week that industrial stocks rose 2% or more—an incident rate of just 0.54%.
And there have only been three instances when technology shares fell 2% or more in a calendar week while the S&P 500 index SPX, -0.37% advanced 1.5% or more—an incident rate of 0.27%.
Analysts said optimism over tax-cut legislation is driving broader market gains as well as the rotation. The S&P 500 and Dow Jones Industrial Average DJIA, -0.45% as well as the Nasdaq Composite COMP, -0.19% remain not far off all-time highs. The Dow and S&P both notched intraday records in early trade Monday, with the Dow posting its 64th record close of the year.
In recent weeks, shares of companies expected to benefit most from a reduction in the corporate tax rate and other elements of tax legislation have started to outperform shares of firms that have less to gain, analysts noted, underscoring the idea that much of the broader market rally over the course of the year reflected other factors, including corporate earnings growth and a strengthening global economy.
Indeed, UBS analysts had warned in mid-November that stocks had yet to begin factoring in the potential impact of tax cuts, leaving room for a potentially violent rotation that appears to now be taking place.
Now, investors note a rotation across sectors, as well as investing styles, with value stocks—shares that are viewed as undervalued relative to fundamentals such as sales or earnings—gaining relative to growth stocks—shares of firms that are expected to see above-average growth. Value has also seen outperformance versus momentum stocks—shares that have seen strong uptrends.
“Growth and momentum styles have outperformed for most of the year,” said Bob Doll, chief equity strategist at Nuveen Asset Management, in a Monday note. “ But last week investors poured money into value sectors and those areas that may be poised to benefit from tax policy changes. In particular, banks, brick-and-mortar retailers, capital goods, media companies, transportation providers and home builders were up sharply while technology stocks lagged.”
Also, concerns that the retention of the corporate alternative minimum tax in the Senate version of the tax bill would hit tech firms harder than others was also seen as a factor.
Tuesday marked a pause in the rotation. The Nasdaq Composite COMP, -0.19% gave up early gains to end 0.2% lower, but outperformed the S&P 500, which slid 0.4%. The S&P 500 tech sector was the only one of the index’s 11 main sectors to remain in positive territory, hanging on to a gain of 0.2%.
The rotation won’t necessarily derail market bulls. Sonders described the rotation as “perhaps a healthy way for the market to consolidate some gains without the overall market suffering to any significant degree.”
There are also questions about whether the rotation will endure.
Tech stocks also swooned in June, prompting calls for a shift out of tech and into energy as oil prices recovered, noted Jasper Lawler, head of research at London Capital Group, in a note. But the Nasdaq-100 NDX, +0.02% subsequently rose 14% from its July lows.
This time, banks are highlighted as the biggest potential beneficiaries of a rotation, but Lawler argued such calls are premature amid doubts the tax plan will have much impact on underlying economic growth. That would call into question the idea that lending will pick up substantially and boost earnings of financial firms, he said.