Premium on cyclicals more than in tech bubble
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Global cyclical stocks are trading at their highest premium for 25 years, says Patrick Armstrong, a managing partner at Armstrong Investment Managers.
He says such stocks tend to trade higher at times of high optimism about the business cycle, often before it ends or enters a more mature second phase.
In 1998, for example, global cyclicals traded at a 40% discount on price-to-book ratios after the emerging market financial crises. Yet they rose to a 10% premium in 2000 at the height of the technology bubble, the only other time in the past 25 years that the premium has entered double digits. (article continues below)
In 2007, cyclicals traded at a 9% discount. In March 2009, at the bottom of the market, they traded at a 30% discount. They have risen to a 16% premium. Typically, defensive stocks trade at a 25% premium because their earnings are more stable.
Armstrong says the market is on the verge of a change in the cycle, from which defensive stocks such as telecoms and pharmaceuticals should benefit.
Whether this is the start of a downturn or a more mature second phase will depend partly on whether central banks raise interest rates and choke off economic growth, he says.
Armstrong’s figures indicate that defensive stocks may be an even bigger opportunity than Neil Woodford, the head of investment at Invesco Perpetual, has suggested.
Woodford has high-conviction holdings in defensive sectors such as pharmaceuticals, telecoms and tobacco. He has been challenged over the high weightings but insists those are the sectors with the most attractive valuations.
Armstrong has added a 5% position in European and American telecoms to its Dynamic Real Return and Conservative Real Return funds and a 2% position in European pharmaceuticals.
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