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Commentary

Aggressive Growth Strategy

January 2019

Key Takeaways
  • Cyclical stocks led a strong rally to start the year, sparked by a rebound in the energy sector.
  • The signals of a change in market leadership we have been discussing are starting to play out across undervalued areas of the portfolio.
  • We view the fourth-quarter selloff as a correction in an ongoing bull market and feel better about stocks at current levels.
Market Overview and Outlook

U.S. equities bounced back from losses in December to deliver their strongest January in 30 years. The S&P 500 Index rose 8.01% for the month, the small cap Russell 2000 Index rebounded 11.25% while the Russell 3000 Index added 8.58%. The benchmark Russell 3000 Growth Index gained 9.18%, outperforming its value counterpart by 118 basis points.

Despite a 35-day U.S. government shutdown and ongoing concerns about slowing global economic growth, stocks rallied behind U.S.-China trade talk optimism, signs of a robust U.S. labor market and a more dovish stance from the Federal Reserve. Corporate earnings, meanwhile, remained broadly positive.

Market leadership during the month looked quite different from the last several years. Cyclical shares in the energy (+14.41%), communication services (13.61%) and industrials (10.87%) sectors were the best performers during January while information technology (IT) companies underperformed.

Energy stocks were boosted by a rebound in crude oil prices after three consecutive months of sharp declines. West Texas Intermediate crude rose 18% in January as global supply fell due to U.S. sanctions on Venezuelan oil exports and falling U.S. inventories. We discussed in last month’s commentary how lower prices and fears of overproduction would hasten a quicker return to supply-demand equilibrium and that dynamic began to play out to start the year.

We remain confident that even in a lower commodity price environment, the exploration & production companies we own will be recognized for their ability to generate cash flow given good financial discipline and management of extraction costs. We have already seen several bids both for assets and smaller companies and believe that is the start of a trend. On the oil services side, we have endured a four-year depression in capital spending. With inventories low, we expect a meaningful refresh cycle in new equipment spend and demand for better drilling technologies. The service names, which have been hurt by more financial leverage, could benefit from growth in spending.

A strong rebound from deeply oversold conditions also boosted our cyclical technology holdings, including data storage names Seagate Technology and Western Digital. These stocks have been depressed by a sharp correction in flash memory prices and a slowdown in cloud infrastructure
spending. Both companies maintain strong competitive positions and could be supported this year by an improving PC market (in the case of Seagate) and stabilization of memory pricing given the long-term growth of data storage needs.

 

"Merger and acquisition activity is one of the drivers we believe will lend support to undervalued sectors like health care."

 

Merger and acquisition activity is one of the drivers we believe will lend support to undervalued sectors like health care. Bristol-Myers Squibb’s $74 billion offer for Celgene in early January is an example of a mature pharmaceutical maker transforming itself by buying an innovative biotechnology firm and gaining access to its pipeline. We believe this is a meaningful deal for sentiment and valuations in the biopharmaceutical sector. It is also another favorable trend for the innovators we own in the portfolio and we would anticipate similar actions from other big drug companies that need to acquire growth to offset margin pressure from the rise of generics.

The last four months have seen the U.S. equity market change dramatically. In the fourth quarter, we went from an era of outright complacency to one of fear and panic while seeing a big uptick in volatility. We’ve experienced a selloff in some of the largest and most widely-held companies in the market and emerging from that selloff has been new leadership. The start of 2019 has been very different from the previous several years as sectors like energy have begun to emerge while lower interest rates and valuation dislocations have driven private equity involvement and strategic M&A activity in some of the previously laggard sectors. We view the broad fourth-quarter selloff as a correction in an ongoing bull market, one that is healthy and not completely unexpected. We believe the resultant environment which began last month could look very different in terms of companies and sectors that outperform.

Portfolio Highlights

The ClearBridge Aggressive Growth Strategy outperformed its Russell 3000 Growth Index benchmark for the month of January. On an absolute basis, the Strategy had gains across all eight sectors in which it was invested (out of 11 sectors total). The primary contributors to performance were the communication services, health care and IT sectors.

Relative to the benchmark, overall stock selection and sector allocation contributed to performance. In particular, overweight allocations to the communication services and energy sectors as well as stock selection in the IT and health care sectors were the primary contributors to performance. On the negative side, stock selection in communication services and an overweight to health care weighed the most on relative returns.

On an individual stock basis, positions in Biogen, UnitedHealth Group and Vertex Pharmaceuticals in the health care sector, Comcast in the communication services sector and Seagate Technology in the IT sector were the greatest contributors to absolute returns during the month. The largest detractors included Amgen and Medtronic in the health care sector and MSG Networks in the communication services sector.

Evan Bauman

Portfolio Manager
22 Years experience
22 Years at ClearBridge

Richard Freeman

Portfolio Manager
42 Years experience
35 Years at ClearBridge

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  • All opinions and data included in this commentary are as of January 31, 2019, and are subject to change. The opinions and views expressed herein are of the portfolio management team named above and may differ from other managers, or the firm as a whole, and are not intended to be a forecast of future events, a guarantee of future results or investment advice. This information should not be used as the sole basis to make any investment decision. The statistics have been obtained from sources believed to be reliable, but the accuracy and completeness of this information cannot be guaranteed. Neither ClearBridge nor its information providers are responsible for any damages or losses arising from any use of this information.

  • Past performance is no guarantee of future results.

  • Performance source: Internal. Benchmark source: Russell Investments. Frank Russell Company (“Russell”) is the source and owner of the trademarks, service marks and copyrights related to the Russell Indexes. Russell® is a trademark of Frank Russell Company. Neither Russell nor its licensors accept any liability for any errors or omissions in the Russell Indexes and/or Russell ratings or underlying data and no party may rely on any Russell Indexes and/or Russell ratings and/or underlying data contained in this communication. No further distribution of Russell Data is permitted without Russell’s express written consent. Russell does not promote, sponsor or endorse the content of this communication.