In less than three weeks, the U.S. Federal Reserve will hold its next regularly scheduled meeting. That's when the direction of the country's monetary policy will be decided. As usual, the Fed's action will be watched not only for cues about the direction of interest rates but also in terms of their reading of the economy. After all, no one has more data at their disposal than the Fed.
As you well know, at the conclusion of the July 30-31 meeting, the Fed made the first rate cut in more than a decade. After the widely expected quarter-point cut, the benchmark rate now sits in a range between 2% and 2.25%. That action, however, failed to prop the U.S. stock market: The S&P 500 index declined about 2.9% in August, thanks to the newly emerged trade-related uncertainties.
Over the past month, investors have taken a decisively defensive stance. This means that so-called "value" investments are coming into sharper focus.
Things Are Getting Tricky For Growth Investors
A rallying stock market and a strong economy are typically led by the so-called "growth" investments. These are the industries and companies that can -- and do -- grow profits faster than the economy.
Growth stocks are mainly associated these days with tech companies -- particularly in subsectors like the cloud where big things are happening and where money is flowing at a fast clip. Companies in these areas can be reasonably expected to post annual profit growth rates well in excess of 20% in the foreseeable future. They can stumble, of course. But so far, many of them haven't. In the past month, however, some have given up some ground, thanks to profit-taking and to the market getting more defensive.
Many recent IPOs such as Tufin Software Technologies (Nasdaq: TUFN) (which I wrote about here), an innovative network software company, or Allogene (Nasdaq: ALLO), a clinical-stage cancer research biotech -- are also growth companies. Both have the potential to grow exponentially if their technologies take off. But they are riskier than the more established tech or cloud companies I discussed above because they still burn cash -- and therefore they can suffer more when the markets panic.
The Market Shifts Focus
On the other hand, bargain-priced stocks -- the ones that are called "value" in market-speak – have become more attractive to investors as growth prospects deteriorate amid trade war reacceleration. Investors have also become more price-sensitive this summer, based on several metrics, from earnings per share to dividends per share.
Here's what performed well: defensive sectors such as consumer staples (up 0.7%), utilities (up 3.6%) and real estate (up 5.1%).
And here's what sold off: energy (down 9.3%), financials (down 7.9%), materials (down 5.9%), industrials (down 5.5%), and technology (down 5.3%). These underperforming sectors are leveraged to the economy.
Action To Take
This market action indicates that investors are worried. However, there is light at the end of the tunnel for growth investors.
We can reasonably expect that cheaper money (when interest rates are low, money is more accessible and credit is cheap) will create more incentives for growth stocks. That's because cheap money typically leads to asset inflation -- which, in the long run, is what bull markets are made of. In other words, the ideal environment for growth stocks is a low-interest-rate environment. Cheap money is good for growth.
At the same time, as the recent market action has indicated, the time has come to exercise caution. My advice: look to make your portfolio better suited for this risker environment while staying invested and positioned for further gains. If that means looking to make some portfolio adjustments -- taking a couple of gains and a few losses, then so be it.