Investment Research Update:
Second Quarter 2023

Cyclical Sectors May Outperform

Fidelity's director of quantitative market research Denise Chisholm offers data-driven views of the markets, equity sectors, and other investment building blocks, such as factors and thematic strategies.

Key takeaways

  • Investors weighed a shifting outlook during the first quarter, as inflation fell but stayed high.
  • The U.S. Federal Reserve raised interest rates more slowly, and a bank crisis unfolded.
  • The information technology, communication services, and consumer discretionary sectors led the stock market during the quarter as investors turned their focus to cyclical stocks.
  • Financials, energy, and health care were the bottom performers for the quarter.

Potentially Bullish Setup for Tech

Bottom-quarter fundamentals offered a possible contrarian buy signal for information technology. Consumer discretionary also looked increasingly constructive based on contrarian indicators. Recovering fundamentals boosted the outlook for financials stocks. Conversely, high valuations could present headwinds for consumer staples and real estate.

Financials Sell-Off May Spell Good News for the Market

Financials stocks dropped 4% on March 9, coinciding with the Silicon Valley Bank failure. Financials sell-offs of this magnitude are rare, happening just 1% of the time since 1989. When they've occurred, the S&P 500 index has advanced, on average, over the next 12 months, whereas financials have trailed the market.

High Valuations for Defensive Stocks May Signal Cyclical Advance

As of the end of February, defensive stocks traded at a large premium to cyclicals. This may be another bullish signal. Since 1976, when the valuation difference between defensive and cyclical sectors was in its top quartile, based on price to forward earnings, the S&P 500 advanced over the next 12 months 90% of the time, and cyclicals typically outperformed.

Technology Stocks May Benefit from Plummeting Earnings

Technology earnings have fallen. Surprisingly, technology stocks have outperformed, on average, for the 12 months after year-over-year earnings growth was in its bottom quartile. This may be because the earnings outlook for tech tended to improve after those weak patches.

EXHIBIT 1: Information technology led the market in Q1, while financials and energy lagged

Performance as of 3/31/23SectorLatest Quarter1-Year3-Year AnnualizedDividend YieldWeight in S&P 500®S&P 500®Communication ServicesConsumer DiscretionaryConsumer StaplesEnergyFinancialsHealth CareIndustrialsInformation TechnologyMaterialsReal EstateUtilities20.5%16.1%0.8%-4.7%-5.6%-4.3%3.5%21.8%4.3%2.1%-3.2%7.5%-17.8%-19.6%1.2%13.6%-14.2%-3.7%0.2%-4.6%-6.3%-19.6%-6.2%-7.7%9.4%14.5%14.7%48.4%18.1%15.4%21.7%24.3%23.9%10.1%10.3%18.6%0.9%0.9%2.5%3.7%1.9%1.7%1.6%0.9%2.0%3.4%3.1%1.6%8.1%10.1%7.2%4.6%12.9%14.2%8.7%26.1%2.6%2.6%2.9%

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