- Cyclical stocks maintained their leadership position as stocks solidified gains during the month.
- M&A activity continued in the health care sector, confirming our belief that biopharmaceutical companies with innovative treatments will be monetized.
Market Overview and Outlook
U.S. equities continued to advance in February, with the S&P 500 Index gaining 3.21% during the month to push its return to 11.48% year to date. The small cap Russell 2000 Index added 5.20% in February while the Russell 3000 Index rose 3.52%. The benchmark Russell 3000 Growth Index gained 3.79%, outperforming its value counterpart by 55 basis points.
Stocks rose on optimism for a resolution to U.S.-China trade negotiations, the avoidance of another government shutdown and a softening stance on interest rates from the U.S. Federal Reserve. These factors boosted investor sentiment. In fact, just two months removed from an equity market correction, risk taking has returned with a vengeance. Bullish sentiment in the U.S. Investors Intelligence poll has risen for the last several weeks and flows into U.S. equity funds have turned positive again.
We have commented recently that the fourth-quarter selloff was healthy for stocks and could further extend the long-running bull market, albeit with broader breadth and different leadership sectors. Information technology (IT, +7.18%) was the best performing sector in the benchmark in February – similar to the last several years – however the cyclically-oriented industrials (+7.01%) and materials (5.25%) sectors also outperformed.
Oil prices rose for the second straight month, continuing a positive start to 2019. A barrel of WTI crude fetched $45 on December 31, 2018, compared to $57 at the end of February, an increase of over 25% and the best performance in the first two months of the year since 1984. Saudi Arabia reiterated its intention to cut output, while signs of a more dovish Federal Reserve and progress in U.S.-China trade negotiations painted a more robust picture of global growth and oil demand.
Energy stocks did not keep pace with recovering commodity prices, but we were encouraged by signs of M&A activity in the sector which speaks to the strength of balance sheets and the discount between public and private market valuations. Canadian exploration & production company Encana completed its acquisition of portfolio holding Newfield Exploration during the month and we will continue to hold shares of the combined company.
"We remain confident that the cash generation ability and competitive advantages of portfolio companies will be recognized."
We also saw an uptick in consolidation in the health care sector including a bid for portfolio holding Spark Therapeutics, a developer of gene therapy treatments, which received an acquisition offer from global pharmaceutical maker Roche at a significant (>100%) premium. We subsequently closed the position. Rival gene therapy developers, including portfolio holding Ultragenyx Pharmaceutical, also rose strongly on the takeout news. Such action confirms the promise of innovation in the biopharmaceutical space and is one of the primary reasons we remain bullish long term on health care.
Despite the best start to the year for stocks in three decades, companies in several of the sectors we favor, including energy, health care and media, remain undervalued. Our overweights to those areas were a drag on performance for the month, but we remain confident that the cash generation ability and competitive advantages enjoyed by such companies as media conglomerate Comcast and design software maker Autodesk will be recognized as markets continue a choppy path toward broader participation.
The ClearBridge Aggressive Growth Strategy underperformed its Russell 3000 Growth Index benchmark in February. On an absolute basis, the Strategy had gains across five of the eight sectors in which it was invested (out of 11 sectors total). The primary contributors to performance were the IT and communication services sectors.
Relative to the benchmark, overall stock selection and sector allocation detracted from performance. In particular, overweight allocations to the communication services, health care and energy sectors as well as stock selection in the IT and health care sectors were the primary detractors from performance. On the positive side, stock selection in communication services and an underweight to the consumer discretionary sector contributed the most to relative returns.
On an individual stock basis, positions in Comcast in the communication services sector, Autodesk and Seagate Technology in the IT sector as well as Ionis Pharmaceuticals and Spark Therapeutics in the health care sector were the greatest contributors to absolute returns during the month. The largest detractors included UnitedHealth Group and Biogen in the health care sector, Anadarko Petroleum in the energy sector, Twitter in the communication services sector and Qurate Retail in the consumer discretionary sector.
During February, we initiated a position in Voyager Therapeutics and closed a position in Spark Therapeutics, both in the health care sector.