October 9, 2023
The stock market contraction is gaining momentum and should turn into a bear market
Moreover, households must make choices regarding their spending.
Investors are increasingly interested in defensive value sectors...
... including consumer staples and healthcare

CHART OF THE WEEK: "Sector performance over the business cycle"


Between 1st October 2022 and 31st July 2023, the main equity indices enjoyed a 10-month bull market, gaining +28% on average. The situation seems to have reversed since 1st August 2023, with the MSCI World All Countries, the S&P 500 and the Euro Stoxx all losing around -9%. We have regularly detailed the atypical nature of this bull market, which is not based on micro and macro-economic fundamentals (see Figure 2) but entirely on the premature revival of investor confidence and the temporary surge in valuation multiples, as occurred when the internet bubble burst between 2000 and 2002 (see Figure 3).

This time, the situation is all the more paradoxical in that only a few stocks have pulled all the indices back to their previous highs, particularly in the United States. Without Apple, Microsoft, Nvidia, Amazon, Meta, Tesla and Alphabet, the S&P 493 would have been treading water. Another way of seeing this is to compare the performance of the S&P index, which is traditionally weighted by the market capitalisation of each of the 500 companies that make it up, with its counterpart where the companies are equally weighted. The former is up by 11% between 1st January and 4th October, while the latter is in the red, at -2% (see Figure 4).

So, to take advantage of the bull market, investors had to either hold these seven stocks in their portfolios or invest passively (via ETFs). Conversely, most investors who had opted for active selection, including banks and renowned investment funds, suffered from their 'poor' selection

As these seven stocks belong to three sectors, it is clear that the other eight segments did not shine this year (see Figure 5). Oil and gas companies nevertheless managed to come out on top, thanks to the conflict situation in Eastern Europe and the rationing of oil supply by exporting countries (OPEC+). So, despite the looming recession, the energy sector will continue to benefit from a buoyant environment over the coming quarters.

At the other end of the spectrum, the four worst-performing sectors are utilities, real estate, consumer staples and healthcare. The property market clearly has a long way to go, as the rate rises of the last two years are only just beginning to trigger one of the most serious real estate crises in modern history. To a lesser extent, utilities, which include water and electricity suppliers, have also been affected. These companies often have substantial financing needs, as they invest heavily in infrastructure over the long term. When interest rates rise, their financing costs skyrocket and their profitability falls. They also pay high dividends, but these payments seem less attractive to investors in an environment of high bond yields. So, until central banks 'pivot' by lowering rates, the sector will suffer.

The story is much more reassuring for the two defensive sectors, consumer staples and healthcare. To their detriment, they tend to underperform when the stock market relies on expanding multiples to climb, and 2023 was no exception. Investors have abandoned cheap companies such as Walmart, Mondelez, Unilever (see Figure 6) or Merck, Sanofi, Novartis (see Figure 7) for a handful of excessively expensive and popular cyclical companies. On the other hand, when markets are trending downwards, because a recession is taking hold for example, the consumer staples and healthcare sectors deliver robust performances (see Chart of the week). As the economic crisis deepens, unemployment rises, household incomes and savings fall and banks lend less, consumers are obliged to make choices. When it comes to spending, they give priority to food and health, leaving other non-essential expenses to one side. As a result, companies active in the consumer staples and healthcare sectors continue to generate profits. Their share prices are outperforming.

Analysis suggests that, in the event of a bear market, stocks in these two "defensive value" sectors have every chance to generate better returns than the rest of the market. The losers of the euphoric period will thus be the big winners when investors return to reality. Given the relatively disappointing performance of the healthcare sector over the past year, a strong rebound would not be surprising (see Figures 8 & 9).


The last bull market was based on investors' excessive optimism and their enthusiasm for a small handful of companies. Defensive sectors typically underperformed. Investors have now turned the tide. Over the next few quarters, the last will be first. The bear market will give pride of place to companies operating in the consumer staples and healthcare sectors.


Financial Research