The broad asset classes maintained a bullish front last year, as we noted on Tuesday, and the trend held true among for equity sectors.
Breaking the S&P 500 into its 10 sectors reveals that 2006 was a winning year across the board for large-cap equities. As our tables below document, gains were easy find last year, no matter the sector.
The bottom performer in 2006 was healthcare, which delivered a relatively mild 5.8% price gain, or less than half of the S&P 500’s price change last year. The top performer was telecom services, which displaced energy, which was the leader for both 2004 and 2005.
Expecting that 2007 will again deliver gains in every sector may be pushing it, however. Earnings growth is expected to slow this year relative to the recent past. While that poses no great inherent challenge, it does mark a downshift in momentum. The question is how investors react to the downshift?
For a sense of the perception challenge that awaits, consider the outlook for S&P 500 sector earnings for 2006’s fourth quarter and how that compares to the full year projections. In nine of the ten sectors, the fourth-quarter projected earnings growth rate is lower than for the full year’s forecast, according to a Zack’s report published last month. Translated: the big earnings-growth momentum is slowing. By the time first-quarter numbers are published, the cooling relative to the recent past will be even more pronounced.
History suggests that investors are heavily influenced by the trends in the recent past, which has been kind to equity owners. When the trend shifts, perceptions can be altered, sometimes radically, depending on how long the previous trend has been rolling and how far animal passions have run. The danger, in short, isn’t a slowdown in earnings. Rather, it’s the potential for an over-reaction by Mr. Market, who’s been known to go to extremes at times.