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Sector Detector: Valuations Favor Healthcare And Utilities

 January 13, 2010 09:04 AM

The market strength has continued during this typically bullish time of the year, but Sabrient's fundamentals-based SectorCast-ETF model has hardened its defensive posture. This would indicate that the rally has been driven more by things like sentiment and a weak dollar than by fundamentals. The Consumer Staples sector scored significantly lower this week, which allowed Utilities to move into second place. Notably, Consumer Discretionary has made a surprisingly strong move up this week.
Latest rankings: Other than the drop in Consumer Staples and the rise in Consumer Discretionary, there has been little change in scoring in this week's rankings vs. last week's. Keep in mind, SectorCast is designed to take a one-month forward look.

Healthcare () has again held the top spot with a score of 80, and Utilities () is now solidly in second place with a strong score of 76. The high score for both sectors is powered primarily by their low aggregate projected price to earnings ratio. Return ratios are also strong—particularly return on equity for XLV and return on sales for XLU.

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Top-ranked stocks within XLP and XLV include Cephalon (Nasdaq: CEPH), AmerisourceBergen (NYSE: ABC), Public Service Enterprise (NYSE: PEG), and TECO Energy (NYSE: TE).

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At the bottom of the rankings, once again we find Materials () as the fundamentally most overvalued sector with a low score of 33. Despite its recent technical strength, it remains saddled with the highest aggregate projected P/E and poor return ratios—both return on equity and return on sales. Industrials () again finds itself solidly in the second-to-the-bottom spot with a score of 35. It is hampered by a poor projected change in year-over-year earnings across the sector.

Low-ranked stocks within these sectors include Alcoa (NYSE: AA), Vulcan Materials (NYSE: VMC), PACCAR (Nasdaq: PCAR), and Monster Worldwide (NYSE: MWW).

These scores represent the view that Healthcare and Utilities stocks may be undervalued overall, while Materials and Industrials stocks may be overvalued. It's worth mentioning that Consumer Discretionary (XLY) saw its score jump from 39 last week to 59 this week, primarily because it enjoyed a number of analyst upward earnings revisions among its constituent stocks during the week.

Performance: The table below shows the performance of each of the prior four weekly portfolios as of the market close on Tuesday, 1/12/10.

According to our SectorCast-ETF model, the Materials sector continues to display inadequate forward-looking numbers to support current valuations. However, optimistic sentiment about future demand, inflation expectations, and a weak dollar seem to be overriding fundamentals at the moment.

No doubt, the current rankings put a definite defensive posture to the long/short portfolio. The market pulled back on Tuesday, 1/12/10, and indeed the three ETFs at the top of our rankings were the top three performers for the day (although XLI was surprisingly close behind).

Disclosure: Author has no positions in stocks or ETFs mentioned.

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