3Q 2019 Outlook from Jennison Associates

There are solid positives to counter the rising risk of a market pullback from the heavy pull of macro and political concerns.

July 12, 2019

Global equities extended their 2019 gains into the second quarter, but with substantial volatility. After months of trade friction, both consumer and business sentiment show signs of starting to fray. The prolonged uncertainty and the magnitude of potential tariffs are forcing revisions to corporate profits growth forecasts, alterations to business plans and supply chains, and scaled-back estimates of global GDP growth. With substantial gains in equities markets already this year, the heavy pull of macro and political concerns could cause investors to take pause. If the most onerous proposed tariffs are implemented and discord devolves into a full-on trade war, sentiment could deteriorate quickly and meaningfully. The possibility of disappointing second-quarter corporate earnings and reduced expectations, coupled with valuations that have moved higher, suggest a rising risk of a market pullback.

There are solid positives to counter this more cautious perspective. Labor market strength persists, inflation remains benign, and the Federal Reserve’s next move is increasingly likely to be an easing of already low interest rates. While not immune from the impact of tariffs, many of the companies sought by the Jennison Associates Growth team have global operating footprints and may be less likely to face material risk of being competitively disadvantaged by the evolving trade landscape. They are, by and large, market leaders in their industries, operating in secularly growing markets and generating the necessary cash flow to reinvest for attractive rates of organic revenue and above-market-average profits growth.

Although macro and policy factors sometimes distract investor focus away from superior fundamentals, companies with well-above-average long-term growth rates and unique, market-leading products and services have historically outperformed in the long run.

At a glance – Jennison Associates’ equity sector views as of June 2019

Financials and materials were the best performing sectors in the second quarter after lagging over the last year. Growth sectors like information technology and consumer discretionary were also solid and they have led over longer time periods. Energy is the weakest sector for all time periods. Below are highlights from sector views in Jennison Associates’ latest quarterly outlook.

3Q 2019 Outlook from Jennison Associates

Sector

Outlook

Information Technology

Information technology was the best-performing sector in the Russell 1000 Growth Index in the first half of 2019, advancing more than 29%. We attribute this rebound from meaningful declines at the end of last year to recent strong technology sector earnings reports and market recognition of the underlying strength of technology company business models. Strong earnings growth wasn’t limited to “tech” companies grouped in the index’s information technology sector. It extended to other companies with technologically-driven advantages in other sectors, as well, such as social media companies, classified as “communication services,” internet retailers and streaming entertainment providers, grouped in “consumer discretionary,” and robotic surgery and biopharmaceutical companies classified as “health care.” Many tech companies have wide competitive moats and other competitive advantages, as well as secular tailwinds, that we believe support durable, high-quality fundamentals, including faster-than-average revenue growth and better-than average margins.

Health Care

We view the sector’s multi-year outlook positively based on a range of industry trends, especially the innovation occurring across a broad range of company types, products, and business models. We continue to be encouraged by the pace of Food and Drug Administration drug approvals, as well as the department’s generally accommodative stance. In 2018, the FDA’s Center for Drug Evaluation and Research (CDER) approved 59 drugs. The CDER also used at least one expedited development and review method to accelerate approval of 73% of all novel drugs approved in 2018. The 2020 presidential election has begun, and drug pricing is almost certain to once again become a key campaign issue. We think drug stocks are probably somewhat inoculated from this probability, as the pricing risks they face are well understood at this point.

Financials

U.S. economic data and modest earnings growth expectations continue to be supportive of the sector, but macro fears have negatively affected share performance. While less acute than last year, fears of Fed overtightening, an inverted yield curve, and the effect on global growth and credit trends from the continued standoff between the U.S. and China on trade have all weighed on the group’s multiple. However, the positives are that business activity remains robust, the Fed has indicated a willingness to cut rates, and concerns of an imminent recession look to have been assuaged. Additionally, recent support for the sector came from the Fed’s latest round of stress testing, which was received positively and clearly indicated that restrictions on shareholder capital returns will be reduced.

Midstream Infrastructure

We continue to see positive fundamental trends, as overall balance sheet leverage ratios are lower by 20%-25%, dividend coverage has improved and currently stands about 1.5x on average, and the capital discipline being demanded by shareholders has been heeded by management teams. Valuation metrics remain attractive both in absolute and relative terms, as the industry is currently trading below their long-term historical averages. We believe the group is in one of the best positions it’s been in over a decade, driven by the sector’s transformation, combined with the tailwinds of healthy end-user demand and export growth.

Utilities

Utilities are relatively strong performers when forward growth expectations shift down and relative underperformers when the market becomes more positive, with dividend profiles best positioned when rates fall. It fits the classic investment categories of low-volatility; stable; and high quality. As a result, we believe the sector represents a compelling value proposition for investors, given its defensive nature and ability to retain value during times of market stress, like we saw in May and Q4 2018.

For more details, read the full Market Review and Outlook PDF opens in a new window which is available for financial professionals.


 

The views expressed herein are those of Jennison Associates investment professionals at the time the comments were made and may not be reflective of their current opinions and are subject to change without notice. Neither the information contained herein nor any opinion expressed shall be construed to constitute investment advice or an offer to sell or a solicitation to buy any securities mentioned herein. Neither Prudential Financial, its affiliates, nor their licensed sales professionals render tax or legal advice. Clients should consult with their attorney, accountant, and/or tax professional for advice concerning their particular situation.

Certain information in this commentary has been obtained from sources believed to be reliable as of the date presented; however, we cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. The information contained herein is current as of the date of issuance (or such earlier date as referenced herein) and is subject to change without notice. The manager has no obligation to update any or all such information; nor do we make any express or implied warranties or representations as to the completeness or accuracy.

Any projections or forecasts presented herein are subject to change without notice. Actual data will vary and may not be reflected here. Projections and forecasts are subject to high levels of uncertainty. Accordingly, any projections or forecasts should be viewed as merely representative of a broad range of possible outcomes. Projections or forecasts are estimated, based on assumptions, subject to significant revision, and may change materially as economic and market conditions change.

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