Which Sectors Will Outperform in 2018?
On the surface, it might look as if markets are unpredictable entities moving at random, but there is actually some degree of order that guides the economy. Investors have noted certain patterns in the economy that take place over time, now known as the business cycle.
The economy generally goes through several stages – early expansion, middle stage growth, late stage growth and recession. For each stage, certain sectors usually under-perform or outperform. In the early stage, we see consumer discretionary and financials take the lead, while telecommunications and energy lag. In mid-stage growth, technology performs best, while utilities pull up the rear. In late-stage growth, energy and materials are the top performers, while technology and consumer discretionary take the bottom. And finally in the recession phase, utilities and consumer staples tend to do well, while cyclical sectors like industries and technology fare poorly.
A closer look at expected sector performance
In order to get an idea of what sectors might perform well in 2018, we first need to determine where we currently are in the business cycle. For 2017, the top three performing sectors were technology, financials and consumer discretionary. Rounding out the bottom were the telecommunications, real estate and utilities sectors.
Based on which sectors did or didn’t do well last year, it looks as if we’re at the early or middle stages of growth in the economy – a surprising result, considering we’re in the middle of the second longest bull run in history.
If we simply project forward from what’s been working, it seems safe to assume the technology sector will continue to outperform. Catalysts like IoT and other innovations should help propel tech stocks higher throughout 2018, regardless of interest rates.
Investors expect interest rates to rise again in 2018, as many as three times before the end of the year. That translates into bigger profits for another leading sector from last year – financials. Higher interest rates mean higher rates on long term loan products, like mortgages and business financing options, while short term rates aren’t likely to climb higher any time time soon.
One dark horse sector this year could be energy. Not only will it soon cycle back into a top performing sector as the economy heads towards late-stage growth, but OPEC productions cuts after years of low prices has opened up the floodgates for oil and natural gas stocks. Investors might want to take a risk on this undervalued sector this year.
While cyclical sectors of the economy tend to follow the business cycle fairly closely, not all sectors of the economy are subject to these movements. Sectors like biotechnology aren’t cyclical and don’t outperform or under-perform based on anything other than internal fundamentals. Investors should keep a careful eye on global economic changes and stay diversified to mitigate risks.