A broker views his monitor at the Stock Exchange in Frankfurt, Germany, Wednesday, Jan. 2, 2013. Financial markets worldwide eased after the United States averted the so-called fiscal cliff.Arne Dedert/The Associated Press
People who are richer – or just believe they are richer – spend more money. As the value of homes or stock portfolios rise, owners have a tendency to open their wallets.
This correlation, called the wealth effect, is at play now as the stock market responds to the strengthening of the U.S. housing sector, as well as the stabilization of Europe and Chinese manufacturing. Now some market watchers are predicting which sectors will benefit as people increase their spending.
Last year, the investment adviser arm of Bank of Montreal was focused on the theme of the U.S. housing recovery. U.S. house prices have climbed steadily upward in the past 10 months, and the S&P 500 home building index is up more than 100 per cent in the past year.
Consumer staple stocks, which barely outperformed the broader S&P 500 index in the past year, up 15 per cent, are now at are at all-time highs.
As 2012's predictions bear fruit, BMO Nesbitt Burns focused on the "derivative sectors." That is, the industries that benefit from the recovery.
The wealth effect suggests that when homes go up in value, owners are more inclined to buy new cars. The average age of a car in the U.S. is 11 years – a record. That indicates there's plenty of room for Americans to trade up their rides.
"Linamar and Magna are two stocks that have been going up, but that probably have more upside," Stéphane Rochon, managing director at BMO Nesbitt Burns, said in a recent presentation. He also likes GM and Ford stocks.
Mr. Rochon believes that the stocks of "big, ugly, U.S. banks" are offering investors opportunities as they benefit from the U.S. housing recovery. According to the most recent S&P/Case-Shiller home-price index, house prices were up 5.5 per cent in the 12 months ending last November – an even stronger reading than October.
The mortgages these banks have on their books go up in value, which props up bank balance sheets, and the incremental demand for mortgages also helps increase revenue.
A third theme Mr. Rochon is watching is the commercial construction recovery – that's the building of large commercial spaces such as factories. It's a cycle that tends to lag the residential recovery by three or four quarters, he said.
There are now indicators that in nine to 12 months commercial construction should see a big upturn. Mr. Rochon argues now is the time to invest because the stock market, predicting the comeback, will discount these investments in advance.
The U.S. housing market may now be the cheapest asset class in the world (followed closely by equities), but what Mr. Rochon is not in favour of is government bonds, which he point out are at a level of "egregious overvaluation," utilities, real estate investment trusts and telecom stocks.
(Jacqueline Nelson is a Globe and Mail Financial Services Reporter.)
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