In this photo taken on Thursday, Nov. 24, 2011, a worker inspects labels on vials containing H5N1 flu vaccine during production at the Beijing-based drug maker Sinovac Biotech Ltd. in Beijing.Andy Wong/The Associated Press
The month of March marked an important change in tone for market sector performance on both sides of the border. The leading market themes of 2013 suffered painful corrections while strength in previously lagging industries provided optimistic signs of a resurgent U.S. economy.
South of the border, the high-multiple top performers of last year had an extremely difficult month. The trend was particularly apparent in the biotechnology sector. The S&P 500 Pharmaceuticals, Biotechnology and Life Sciences Index fell 4.1 per cent for the month after providing investors with an impressive 42 per cent return for 2013.
The widely followed S&P 500 Software and Services Index, which includes Google Inc. and Facebook Inc. among its largest constituents, showed the same pattern. After climbing 33 per cent in 2013, the benchmark fell a significant 3.1 per cent during March.
In the domestic market, Valeant Pharmaceuticals International Inc. provided a clear illustration that a sector rotation out of biotechnology and health care was not limited to U.S. markets.
Valeant was by far the greatest contributor to positive S&P/TSX performance in 2013. The stock more than doubled during the year and added 224 points to the benchmark on its own. Toronto-Dominion Bank stock, the second-largest positive influence on the index, added only 113.5 points.
March, 2014, was not so kind. Valeant plummeted 17 per cent, punishing latecomers to the stock.
More optimistically, a number of North American market sectors went from worst to first over the past 30 days. The energy sector was a highlight for Canadian investors. The S&P/TSX Energy Index climbed 4.5 per cent for March following a pedestrian 9.9 per cent return for all of 2013.
In the United States, Savita Subramanian, quantitative strategist at Bank of America, believes we are seeing the beginning of a rotation out of previously hot sectors like social media, and into economically sensitive stocks growth stories.
"Rising rates and an economic recovery should drive investors out of expensive secular growers into cheaper GDP-sensitive stocks where better earnings growth offset higher discount rates," she wrote in a note. "We prefer inexpensive, unloved cyclicals."
While Internet and social media stocks got blasted during March, the S&P 500 Technology Hardware and Equipment Index and the S&P 500 Semiconductor and Semiconductor Equipment Index were two of the top three performing market sectors in March (food, beverage and tobacco was the other sector).
Both of these technology subsectors, unlike Internet stocks, are sensitive to increases in corporate spending. There have been indications early in 2014 that capital expenditure was about to increase – a rise in corporate loans was the most telling sign.
Further signs of strength in U.S. corporate spending would form an unequivocally positive sign for the economy and equity markets. The average age of U.S. capital stock – the equipment needed to operate businesses – is now at record highs according to Credit Suisse research. Once started, a replacement and upgrade cycle in Corporate America would have a lot of room to run, offering investment opportunities across a wide range of technology and industrial equipment sectors.
The companies hit hardest in March were those where the stock price was climbing despite minimal or no earnings growth. Facebook was trading at nosebleed price earnings levels above 100 times and fell by more than 12 per cent. Salesforce.com, which has been operating at a loss and doesn't even have a trailing price-earnings ratio, fell 10.6 per cent. Valeant, similarly, is losing money according to conventional accounting (the company does offer its own version which looks more constructive) ahead of its March decline.
Above all, March's abrupt change in equity performance leadership provides investors with another reminder that valuations matter. One month does not make a trend, but investors should re-assess their portfolios in search of stocks where P/E ratios are marching well ahead of profit growth.
Follow Scott Barlow on Twitter at @SBarlow_ROB.
Scott Barlow