Kyryl Gorlov
As markets hover near record highs, much of the focus has been on large tech stocks. Benjamin Gossack, Managing Director and Portfolio Manager with TD Asset Management, explains why he believes industrial stocks are now the real drivers in the current bull market cycle.
Transcript
Greg Bonnell – While some investors have been focused on the performance of tech stocks like Nvidia (NVDA, NVDA:CA), our featured guest today says if you’re looking for a pocket of strength in the markets, one sector is really standing out. And it’s not technology. Joining us now with more, Ben Gossack, Managing Director and Portfolio Manager with TD Asset Management. Ben, always a pleasure to have you. Always a pleasure to have your insights and your charts with us as well.
Ben Gossack – Well, I appreciate you having me. Even brought another new tie. I only got one more new tie, so only one more episode for the rest of the year, I guess.
Greg Bonnell – No, no, no. We’ll make sure– we’ll have you back on more than that. We’ll get you your ties if you need to. Let’s talk about markets. As I was saying, they hit new highs last week.
Ben Gossack – People– and I know this is a sore point for you. People keep saying, well, it’s got to be the Magnificent Seven. It’s got to be tech because look what’s happening in tech. Let’s talk about who you see as the real generals in this market rally.
Well, I think we’ve been– it’s almost getting a little tired. We’ve been talking about homebuilders, and trucking stocks, and the companies that make the trucks for the trucking stocks. And we’ve been talking a lot about industrials. And yet it’s still all about the Magnificent Seven, the Magnificent Four.
But I just wanted to, again, just hammer down the point, reemphasize that I do think industrials are sort of the real sort of generals within this bull market cycle that we’re in right now.
Greg Bonnell – All right, so you bring charts to illustrate your point. You’re just not words. You’ve got something to show us. Let’s start going through them. Tell us what we’re seeing in these graphs.
Ben Gossack – OK. So the first chart that we’re looking at is one that we have looked at before. So this would be the S&P 500 industrials. And we put that over the S&P 500 (SPX). So again, you’re not looking at a price chart. You’re looking at a ratio chart.
I really like– I’m addicted to ratio charts. They really tell you where the pockets of strength and weakness are in the market. And I would liken it to a tug of war. So if our chart’s going up into the right, it just means that our numerator is outperforming our denominator. I know people probably weren’t expecting they were going to have to do fractions for their lunch hour, but they are going to have to do it.
What we’ve done with this particular chart is we made it equal weight numerator, equal weight denominator. The reason why I did that, Greg, is because the top 10 stocks in the S&P 500 industrials make up most of the index. And most of them have been underperforming, while the bottom 60 and those in that area has been outperforming.
So we just had to make a small tweak there just to show that there is massive strength going on in industrials. We’re in an industrial supercycle. It’s led by construction activity. We have reshoring, onshoring. There’s the Infrastructure Act, the CHIPS Act, you name it. There’s a boom in industrials.
Greg Bonnell – That’s interesting when you talk about getting an equal weight going because if you do think of some of the big industrial names that are capturing the attention– the Magnificent Seven capturing a lot of attention. And they say, well, let’s talk about an industrial stock. And you say, well, Boeing is capturing a lot of attention but not for the right reasons. Is this key here to start looking beneath the surface of all those headlines saying, there’s other industrial stocks in the world?
Ben Gossack – Yeah. The reason why this Magnificent Seven has been this bee in my bonnet– I get how our indices are driven by the market caps. And these stocks have really big market caps. So when they move, that moves the index. I get it.
But it’s hidden the fact that we’ve had many stocks work in this market. And the other thing I would argue, too, is three out of the four Magnificent Seven stocks are underperforming. Yet, you just said that the market’s been making new highs. So is it–
Greg Bonnell – Something else must be doing some lifting.
Ben Gossack – Right. And so that same feature when we have the Magnificent Seven at the top of the market is the same issue that we’re having in the industrial sector, where, yes, companies like a Boeing (BA, BA:CA), or a UPS (UPS, UPS:CA), or a Raytheon (RTX, RTX:CA), or a Honeywell (HON, HON:CA) are large in comparison to many industrial companies. And their performance is distorting people’s views about how strong industrials have been performing.
Greg Bonnell – All right, if we’re talking about some of the smaller companies in the space, maybe it leads us nicely into the Russell 2000. I think you have a chart there as well to show us some things.
Ben Gossack – Yes. And the reason why I pick on the Russell 2000 is lots of people keep saying, this is an unhealthy market. Look at how the S&P 500 has been performing. And the Russell 2000 can’t keep up. And we’re talking about Russell 2000 being small, medium capitalized companies.
And this is where it’s like, well, do you want the Russell 2000, or do you want the parts that are really working in the Russell 2000? And here we are again with industrials. This is the same setup. So numerator is the Russell 2000 industrials.
We put it over the Russell 2000. What’s really impressive to me about this chart, Greg– so the S&P 500 industrials, I think, take off around spring, summer of 2022, which is roughly where we say the market made its new bull market. But what’s really impressive about looking at Russell 2000 industrials over Russell 2000, they start getting liftoff in 2021– so, well ahead of the S&P 500.
So I would say the real story, the real headline is not S&P 500 is doing this, Russell 2000 is doing this, therefore, we have an unhealthy market. The industrials are crushing it. And they’re crushing it for the same reasons. Some of the best stocks would be construction stocks, engineering stocks.
Again, we have the building materials, the aerospace, defense. So all the same themes that we’re seeing at, let’s say, the large cap index, we’re seeing it at the small cap index. And it’s just, again, not being talked about.
Greg Bonnell – All right, so we’ve shown an example about the S&P 500. We’ve gone through the Russell 2000. Did your work there. Bring it closer to home. I mean, we have engineering companies and construction companies in this country.
Ben Gossack – Yeah, and great rail companies. And so this is not just a US phenomenon, large cap, small cap. You take the S&P TSX industrials, you put it over the S&P TSX, and, lo and behold, we have another bull market. So this is a global phenomenon.
And, again, we could look at Canada, and we can spend all our time talking about banks, and energy companies, and gold companies. And meanwhile, again, our industrial companies are also doing outperformance, again, all driven by the same secular trends that we’re seeing.
Greg Bonnell – Global phenomenon– I think we need to look at the EAFE as well.
Ben Gossack – Yes, why stop in North America when we can travel the world? And the world’s a pretty exciting place. And so, yes, people talk about Germany being in a recession, and this issue here, and this issue there. And, again, European industrials are crushing it.
But EAFE industrials– that would include Japan as well– put that over the MSCI EAFE. So think of, again, developed world ex-North America, and, again, we’re seeing the same trends. A really big marginal mover in all of this would be the data center. So, yes, we have talked about Infrastructure, CHIPS Act.
There is reshoring, onshoring. I think a big slow-moving train are data centers. So data centers require– you need utilities. You need power lines. You need machinery. You need equipment. All this buildout is creating industrial activity. And we’re seeing that in the stocks today.
Greg Bonnell – All right, so for the charts you brought with us, if you did your work, we’re up and to the right. That’s the extent of my technical analysis– up and to the right. What challenges this trend, what’s the biggest risk?
Ben Gossack – So the big risk that I’m focused on right now– so, again, right now, it’s a benefit. I was talking about how the data center is, I’d say, marginally adding to everyone’s books in terms of orders. And so, fine, let’s build these out. And that’s great. And at some point, we have to digest that.
We’re not there yet. But when we digest it, those orders are going to peak out. And so that’s sort of what I’m looking at right now is just monitoring the flow of the data center, monitoring the flow of those orders. And then when we get to that third derivative when things slow down, we could see some derailment.
People talk about the election cycle, and maybe one candidate is pro this and pro that. I will say, in terms of– I’d say the key bill here would be the Inflation Reduction Act. That was approved by Congress, signed by the president.
There are many times people come in and say there’s a new administration. The parties can’t agree with themselves. And this creates a lot of jobs. So there’s going to be a lot of talk. I don’t know if anyone would repeal any of that type of stuff. So that would be a sort of low-probability, high-impact risk. But that is one that gets talked about.
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