Following a steady surge that began in November 2016, the Dow Jones Industrials hit 20,000 for the first time in history on January 25th—just five days after the Trump administration took office.
While this marks a stock market milestone and an extremely quick 1,000 point jump—just 483 trading sessions—it would behoove investors to think critically about where to invest before jumping into the media frenzy.
The push to Dow 20,000 has been led by the sectors of the market that would benefit the most from an uptick in GDP growth and interest rates. Financials and industrials are +18 percent and +11 percent respectively since Trump was elected. Now that we have breached Dow 20,000, investors should be selective in which areas of the market they invest in. While there is still room for areas such as financials to run, there are also other sectors that have not participated as heavily in the rally but would also be the beneficiaries of a pro-growth administration.
One sector that has been negative since Trump was elected is the healthcare sector. Healthcare was the worst performing sector in 2015, as it was -2.8 percent with the S&P 500 +11.9 percent. The sector was weighed by negative headlines surrounding price gouging practices in the biotech industry. While Trump has said that he will take on unfair drug pricing practices, it is uncertain if that will mean stricter regulations for the industry.
The recent dip in the biotech and healthcare sectors gives investors a good entry point to an area that has not run up with the rest of the market. The healthcare sector will be one of the biggest benefactors from a tax repatriation holiday as 20 percent of all United States corporate profits held offshore are held by pharmaceutical firms. The sector is also currently undervalued as it has a forward price-earnings ratio of 14.3x compared to its 20-year average of 18.8x. An ETF that provides broad exposure to the healthcare sector is Health Care Select Sector SPDR ETF (NYSE:XLV) has an expense of 0.14 percent and a yield of 1.5 percent. XLV’s largest holdings are some of the big pharma firms that have under-performed over the last year such as Pfizer (NYSE:PFE) and Merck (NYSE:MRK).
Investors should be cognizant of the drawbacks of ETFs that benchmark to the Dow Jones Industrial Average. The Dow is comprised of only 30 stocks versus the 500 stocks in the S&P 500. The Dow is also a price weighted index, which means that the highest priced stock in the index has the greatest weight. This can lead to returns that are biased towards a higher priced stock. For example, Goldman Sachs (NYSE:GS) is the highest priced stock in the index, and therefore, the biggest constituent. Since the election, Goldman Sachs has accounted for over 20 percent of the return of the index, even though it is just one of 30 stocks in the index. The Dow Jones is also more overweight to cyclical sectors such as financials as compared to the S&P 500 which more broadly represents US large cap companies.
The spike in interest rates post-election wiped out over $3 trillion of value in the bond market. While investors in bonds suffered a rough Q4, we still think that there are opportunities in the bond market going forward. The sharp interest rate move was the market repricing a pro-growth administration, but now a lot must go right to achieve those higher growth rates. We believe that there is a good chance that interest rates slip lower before moving higher with the 10-year ending the year around 3.0 percent. For investors searching for yield but wary of bonds, preferred securities are one option to look at. For example, First Trust Preferred Securities And Income (NYSE:FPE) has over 60 percent of its holdings in fixed to floating rate preferred securities which makes it less sensitive to interest rate movements than a preferred ETF with all fixed rate preferred stock. FPE was up +6.5 percent in 2016 and has a yield of 6.0 percent. However, be aware that it is an actively managed ETF, so it has a higher expense of 0.86 percent.
Ultimately, despite this being a first in Dow history, it marks nothing other than regular market movement. It is never a sure thing that one index will be a consistent winner, therefore it makes the most sense to continue to follow the market fundamentals–factors such as the GDP, the housing market and interest rates. As always, it is imperative that investors focus on long-term goals when making important decisions rather than responding to explosive market excitement.
The SPDR Dow Jones Industrial Average (SI:SPDR) (NYSE:DIA) closed at $200.63 on Friday, down $-0.09 (-0.04%). Year-to-date, DIA has gained 1.58%, versus a 2.43% rise in the benchmark S&P 500 index during the same period.
DIA currently has an ETF Daily News SMART Grade of A (Strong Buy), and is ranked #6 of 77 ETFs in the Large Cap Value ETFs category.