- A strong month for momentum names proved a relative performance headwind vs. the Strategy’s focus on undervalued and contrarian growth.
- Negative sentiment related to production bottlenecks and flagging demand in emerging markets weighed on the energy sector.
- The portfolio remains well positioned for a rotation out of the crowded areas of the market currently favored by investors.
Market Overview and Outlook
U.S. equities continued to gain ground in August, helped by a strong economy and improving sentiment on international trade. The S&P 500 Index rose 3.26% over the month, the Russell 3000 Index added 3.51% while the small cap Russell 2000 Index advanced 4.31%. The benchmark Russell 3000 Growth Index gained 5.53% for the month, trouncing its value counterpart by 398 basis points as momentum investing returned to favor.
The Nasdaq Composite gained 5.71%, its best August performance since 2000, while the information technology (IT) sector (+8.20%) was the best performer in the benchmark on strength in mega cap names like Apple. The portfolio’s minimal exposure to those names and a general underweight to IT compared to the benchmark (-1550 bps) were performance headwinds. We were encouraged, however, by the strong quarterly results turned in by design software maker Autodesk and the strong operating results and recovery of a number of portfolio holdings in the biotechnology space.
"We believe our portfolio companies are doing the right things to generate long-term value."
Oil prices edged up 1.5% to $69.80 for a barrel of WTI crude, as recent cuts by Saudi Arabia and production declines in Venezuela and Libya balanced larger-than-expected inventories in the U.S. and increased Russian production. Energy stocks did not participate, however, as the sector (-5.68%) was the worst performer in the benchmark. The portfolio’s energy holdings were pressured by negative sentiment over crude oil storage bottlenecks in the shale basins of Texas and Oklahoma that represent primary areas of activity. Concerns over slowing energy demand in emerging markets have also restrained the stocks.
Despite short-term weakness in energy, we believe our portfolio companies are doing the right things to generate long-term value. We have discussed the benefits of balance sheet discipline employed by our largest energy holding, Anadarko Petroleum, and remain convinced that the shares of Weatherford International will see a re-rating if the company can return to a position of positive free cash flow. Newfield Exploration, meanwhile, is patiently developing shale assets whose potential is being underappreciated by the market.
August market performance was yet another example of investors rewarding momentum over cash flow. We approach the stocks we own in the portfolio as long-term business owners and focus on their ability to generate consistent cash flow. While we acknowledge that such a stance is currently out of favor, we also believe it leaves us well positioned for when the crowded trades that have been driving market performance eventually unwind.
The ClearBridge Aggressive Growth Strategy underperformed its Russell 3000 Growth Index benchmark for the month of August. On an absolute basis, the Strategy had gains in six of the eight sectors in which it was invested (out of 11 sectors total). The primary contributor to performance was the health care sector while the energy sector was the chief detractor.
Relative to the benchmark, overall stock selection and sector allocation detracted from performance. In particular, stock selection in the information technology (IT), consumer discretionary and health care sectors as well as an overweight to the energy sector and an underweight to IT weighed the most on relative results. On the positive side, an underweight to the industrials sector, stock selection within industrials and a lack of exposure to the consumer staples sector contributed the most to relative returns.
On an individual stock basis, positions in Autodesk, Biogen, UnitedHealth Group, Comcast and Twitter were the greatest contributors to absolute returns during the month. The largest detractors included Anadarko Petroleum, Weatherford International, Western Digital, Freeport-McMoRan and Newfield Exploration.