The reflation trade is a phrase generating plenty of buzz this year, and while it’s taking some lumps in recent weeks, some market observers believe it will regain momentum before 2021 concludes.
Alone, that’s notable, but making a potential reflationary resurgence worth watching (and participating in) is the sector-level implications that come along with it.
“The U.S. economy was stuck on a 2% economic growth trend pre-pandemic. Now we’re looking at 6% to 8% this year. Who benefits the most from that? The cyclical parts of the market: energy, financial services, banks, industrials,” he said.
Financial services are proving to be a decent bet for investors this year. Previously, 10-year Treasury yields surged, providing some ballast to depressed net income margins. More recently, the Federal Reserve signed off on dividend increases by banks, and those companies are responding, as highlighted by a recent spate of favorable payout news in that sector.
More broadly, global governments and central banks, including the Fed, threw an astounding $28 trillion at pandemic relief efforts. That can’t and won’t continue forever, and market participants are already pricing in fading stimulus impact, but earnings recovery can support the aforementioned sectors, other value plays, and smaller stocks.
“Right now, you’ve got a powerful earnings recovery that’s happening. Earnings are accelerating powerfully,” notes Dillon. “The biggest beneficiary of that acceleration is cyclicality: industrials, financials, the value side of the equation, small caps, mid-caps, all of that.”
Dillon adds that rapid earnings expansion could prove durable, lasting through the end of this year and into the middle of 2022.
“This time last year, second-quarter earnings were dropping on a year-over-year basis in the S&P 500 in the range of about -32%, and the sectors hit hardest were financials, energy, and industrials. Those earnings are now coming back strongly,” according to Dillon.
Industrial earnings can be supported by, among other factors, renewed demand for commercial aircraft and related components as airlines normalize their schedules and approach normalcy, perhaps as soon as 2022 or 2023.
For more news, information, and strategy, visit the Active ETF Channel.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.