The year is almost over, so what was behind the solid performance for U.S. stocks as the market trading hours of 2016 dwindle to a precious few? For clues, look no further than the fact that nine of the 10 industry sectors within the S&P 500 Index have scored positive gains as of December 28. And barring a sudden collapse at year-end, six sectors managed to net double digit gains that beat the performance of the broader index.
Atop all sectors was energy as represented by the Energy Select Sector SPDR Fund (XLE), which contains global giants such as Exxon Mobil, Chevron, and Schlumberger. Crashing oil prices sank energy stocks in 2014 and 2015 by 30 percent. But after oil prices started stabilizing earlier this year, energy stocks bounced back and a recovery seems to be underway.
Although the two consumer sectors—discretionary, as represented by the Consumer Discretionary Select Sector SPDR Fund (XLY) and staples, tracked by the Consumer Staples Select Sector SPDR Fund (XLP)— recorded modest year-to-date gains between 5 percent to 7 percent, their performance lagged the broader S&P 500.
Consumer staples are the more defensive-oriented sector because they hold exposure to food and beverage makers, along with drug retailers, tobacco companies, and consumer product giants such as Procter & Gamble. In contrast, the consumer discretionary sector holds exposure to automobile manufacturers, hotels, restaurants, leisure, media, and retailers which are all highly dependent on non-core household spending.
Two other defensive industry sectors—real estate, in the form of the The Real Estate Select Sector SPDR Fund (XLRE) and utilities, the Utilities Select Sector SPDR Fund (XLU)—have posted yearly gains of 0.85 percent and 15.17 percent, respectively. Nevertheless, both sectors struggled during the second half of 2016. Although utilities and real estate have thrived in the low-rate environment over the past several years, the recent rise in interest rates has hurt their performance.
Healthcare stocks, such as those in the Health Care Select Sector SPDR Fund (XLV), were the only S&P 500 industry sector to post a negative yearly return, so far losing a modest 2.58 percent. The healthcare sector was weighed down by threats of drug price reform and company specific problems, like the failure of Eli Lilly’s Alzheimer, along with lackluster performance in the biotechnology sector.
“The investing world over the last few decades has been trained to think that the stock market is divided up neatly into different categories such as large and small stocks, growth and value stocks, and domestic and foreign stocks,” says Jeremy Held, director of research at ALPS. “While each of those distinctions is important, we believe that they pale in comparison to the importance of the sector effect.”
Perhaps the biggest impact behind the stock market’s strong 2016 delivery was the technology sector, as represented in the Technology Select Sector SPDR Fund (XLK).
Tech stocks are the S&P 500’s largest sector, accounting for a massive 23.53 percent of the index. The tech sector has gained 15.89 percent as top holdings like Apple, Facebook, and Microsoft all delivered solid gains.
Although nobody knows if next year’s sector performance will match the impressive results of 2016, more advisors are realizing the importance of sector diversification within client portfolios.