Though a mountain of woes derailed the U.S. market momentum in the first half of 2016 thanks to global growth worries, uncertainty in the Fed move, specifically volatility in the oil patch, Brexit and corporate earnings recession, the second half looks to be shaping up better.
Brexit has turned out less frightening than expected so far and has soothed the nerves of global investors. In fact, U.S. indices hit consecutive highs to start the third quarter. But all that rosiness faded to enter Q4 as evident by about a one-month 1.5% decline in the S&P 500-based (SPY - Free Report) (as of October 21, 2016). Rising worries about a Fed rate hike by the year-end led to this momentum loss.
This is especially true as several analysts have been repeatedly cautioning that U.S. stocks are overvalued and may crash anytime soon on Fed policy tightening and uncertainty regarding the presidential election.
Many believe that we are now in the most-hated bull market ever. Still-lukewarm U.S. economic growth, moderate corporate earnings and weaker business investments do not actually justify Wall Street’s bullish run. Basically, it is the Fed’s easy money policy that led stocks to such a high (read: Play These Inverse ETFs if You Hate This Bull Market).
Goldman Sachs has long been vocal on this issue. As per the research house, investor enthusiasm peaked and “points to a 2 percent near-term S&P 500 fall." An HSBC technician also sees that “the possibility of a severe fall in the stock market is now very high (read: ETF Strategies for Q4).”
All these statements very well motivate investors to search for a value sector, if there is any left at all. No doubt, with all the major indices trading at around all-time highs, it is hard to find value plays at home. But for those fervently looking for undervalued sectors, there are still a few hidden treasures out there.
While several indicators are used to examine any stock or sector’s valuation status, price-to-earnings ratio or P/E has been the most widespread. We have identified three sector picks having the lowest forward P/E ratio for this year’s earnings in the pack of the 16 S&P sectors classified by Zacks and detail the related ETFs to play those sectors’ undervalued status.
Finance – SPDR S&P Bank ETF (KBE - Free Report)
While the operating backdrop of financial stocks has improved a lot from the recession-ridden phase, one potential rate hike by the end of this year should boost financial ETFs. Investors should also note that banking earnings have come in stellar in the ongoing Q3 reporting cycle (read: Buy Bank ETFs for Q4 on Bullish Earnings, Fed & Oil).
The space has a current-year P/E of 14.0 times, reflecting a 25.9% discount to the S&P while its next-year P/E stands at 12.7 times, pointing to a 23.5% discount to the S&P 500. The space has advanced about 1.9% so far this year (as of October 19, 2016).
While there are plenty of financial ETFs, investors can take a look at the Zacks Rank #3 (Hold) KBE. The fund is up just 2.5% so far this year (as of October 24, 2016).
Medical – iShares US Healthcare Providers (IHF - Free Report)
The medical sector has been sluggish lately, especially the biotech corner. Risk-off sentiments and price gouging issues beat the lure of the biotech sector. But investors should note that the sector is expected to score 6.4% earnings and 9.6% revenue growth this year. In 2017, earnings and revenue growth are expected to be 9.3% and 6.2%, as per the Earnings Trends report issued on October 19, 2016 (read: Buy UnitedHealth ETFs on Upbeat Q3 Earnings).
The space has a current-year P/E of 15.8 times, reflecting a 16.4% discount to the S&P while it’s next-year P/E stands at 14.4 times, reflecting a 13.3% discount to the S&P 500. Shares of the sector have dipped 1.4% so far this year (as of October 24, 2016).
With all the uncertainties regarding presidential election and its impact on the key medical sector, we would like to go for a safer healthcare providers’ ETF IHF. Notably, IHF is down over 1.3% this year but added 1.5% in the last five days (as of October 24, 2016).
Transportation – SPDR S&P Transportation ETF ((XTN - Free Report) )
With oil prices still subdued, the interest rate still remaining low and nothing being certain about the OPEC output cut deal, transportation ETFs like XTN should get a boost.
Agreed, the sector has been contending with some headwinds including global growth issues and is expected to see an earnings decline of 14.1% and a revenue dip of 0.7% in 2016, the trend is about to improve. The sector is likely to see an earnings growth of 2.1% next year on 6% higher revenues.
The current and the next-year P/Es for the sector are 13.0 and 12.4 times respectively, reflecting a 32.6% and 27.9% discount to the S&P 500. One way to play this trend is with XTN. The fund is up 11% so far this year (as of October 24, 2016).
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