The competition between the leading providers of U.S. equity research just got tighter, with five firms crowding into the top three places on the 2015 All-America Research Team, Institutional Investor’s annual ranking of the country’s best sell-side analysts. Bank of America Merrill Lynch displaces J.P. Morgan atop the roster, ending the latter’s winning streak at five years; their team totals are 38 and 36, respectively. However, when a rating of four is assigned to each first-place position, three to each second-place position, and so on, J.P. Morgan continues to best BofA Merrill in the weighted results, this time by a score of 99 to 77.
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Three firms are locked in a tie for third place overall, with 25 spots each: Barclays (rising one rung from last year), Evercore ISI (jumping from fifth place) and Morgan Stanley (rank unchanged). Click on the Leaders link in the navigation table at right to view the full list of 31 ranked firms, or Weighting the Results to see how these research providers fare when the abovementioned formula is applied.
Evercore ISI — the outfit created last year through the merger of Evercore Partners and International Strategy & Investment Group — records the highest finish by a non-bulge-bracket firm since 1995, when Donaldson, Lufkin & Jenrette Securities Corp. captured second place. It is also the only one of the five whose team total is higher this year than in 2014, but a word of explanation is in order. We made a number of changes to this year’s ballot — adding Shipping, deleting Tobacco and merging sectors in the Consumer; Health Care; and Technology, Media & Telecommunications categories (details at Methodology) — reducing the sector total by four, to 60.
This year’s team features 285 analysts, including 30 people appearing for the first time. To view the individuals and squads in first place in each sector, click here or select the appropriate link in the navigation table for more information. The Overview highlights some of the more interesting and unusual results of this year’s survey.
The 2015 All-America Research Team reflects the opinions of a record 3,800 individuals at more than 1,000 firms that collectively manage an estimated $11.3 trillion in U.S. equities.
It’s been a challenging year for many financial professionals, in large part owing to confusing and often contradictory data on the health of the U.S. economy. Real gross domestic product in the first quarter, for instance, was initially reported to have contracted by 0.2 percent, only to be revised later to a 0.6 percent expansion. Early reports of second-quarter GDP of 2.3 percent fell short of consensus expectations of 2.6 percent; the official figure was revised in August all the way up to 3.7 percent.
That bit of good news could not have come at a more opportune time, as world markets were reeling from China’s surprise currency devaluation — a move widely seen as an attempt to stoke demand for exports from the world’s second-largest economy. Investors were retreating at a pace not seen in years, with the S&P 500 falling into correction territory and the Dow Jones Industrial Average logging the worst three-day decline in its 119-year history — more than 1,477 points.
This global market turbulence, coupled with a domestic inflation rate of just 0.3 percent, was among the key reasons why the U.S. Federal Reserve opted not to raise interest rates in September, as many market observers had expected. But if the delay was meant to calm investors, it seems to have had the opposite effect, with many wondering if the central bank knows something that they don’t. By the end of last month, the S&P benchmark had fallen more than 7 percent, to 1,920, in the trailing three months — its worst quarterly performance since 2011. Some analysts have declared that a bear market for U.S. stocks had begun, but not everyone agrees.
“In trying to communicate a dovish policy message, Fed chief [Janet] Yellen inadvertently conveyed a downbeat view of the global growth outlook, which did not help risk appetite,” affirms Nicholas Rosato, head of North American equity research at J.P. Morgan. “We don’t think that we are in a bear market, but given that the expansion is now in the later stages, high equity returns likely will be harder to come by.”
And investor anxiety will probably keep trading range-bound in the near term, believes Brett Hodess, BofA Merrill’s director of equity research for the Americas. “Volatility increased in August ahead of the Fed inaction, as global growth and quantitative easing failure fears grew,” he observes. “With the issue now well acknowledged by the Fed’s decision and its explanations, we believe the market could have a short-term bear move but is most likely entering a trading range, with the low end retesting the mid- to lower 1,800s on the S&P 500 and potentially reaching an upside of 2,100.”
The latter figure is Barclays’s forecast for the index at year end, according to Robert Rouse, director of U.S. equity research. “We think the recent risk-off trade wasn’t about a sudden shift in sentiment as much as it was mounting concerns around global growth. China’s deceleration will remain a headwind for an extended period, while developed-market economies remain on track,” he says. “With slowing growth central to our thesis and current valuations not yet compelling, we expect U.S. equities to settle into a period of lower returns and have cut our 2015 S&P earnings forecast to reflect zero year-over-year growth.”
Cornerstone Macro’s François Trahan, who celebrates his ninth appearance at No. 1 in Portfolio Strategy, dismisses talk of bear-market beginnings. “The best-performing sector in the past month is technology, followed by consumer discretionary and energy. These are all cyclical sectors, and leadership there is just not what you see in a bear market,” he explains. “The flip side of this is the poor relative performance in utilities, telecoms and health care — classic defensives — which usually lead equities going into a bear market. So the internals here are not consistent with a bear market.”
On the contrary, he adds, these signs indicate that the U.S. economy is on the upswing, recent market performance notwithstanding. “In essence it’s a correction — and a great opportunity, as I see it,” Trahan says. “I think in a few months investors will say, ‘Oh yeah, sectors told you the world was about to improve.’”
His colleague Nancy Lazar, who rises one rung to lead the Economics lineup for the first time, also believes the economy is poised to soar. “The biggest tailwind for U.S. domestic economic activity is the lagged impact of the sharp decline in energy prices, helping to boost real consumer purchasing power,” she says. “But less obvious is the broadening impact of the U.S. manufacturing renaissance, which is starting to help boost employment and is also a boost to domestic capital expenditures. So, if energy-related capex can finally stabilize in 2016 — and we think it will — then overall domestic capex could be stronger than expected.”
Lazar expects GDP growth of 3.5 percent in the third and fourth quarters, resulting in roughly 2.8 percent for the year, followed by a 3 percent expansion in 2016. Many research directors are similarly upbeat and are urging clients to position their portfolios accordingly.
“We are particularly bullish on industries that benefit from the strengthening U.S. middle-class consumer,” BofA Merrill’s Hodess declares. “The financial obligations — that is, debt — of the consumer is at 25-year lows and stabilizing at the same time that household formation is increasing with the improving unemployment level. This bodes well for bigger-ticket expenditures leveraged to housing and other areas that consumer credit will be extended to. When these trends kick in, they are long, multiyear cycles.”
J.P. Morgan’s Rosato agrees. “Discretionary should benefit from improving labor market trends, high consumer sentiment, rising disposable income and lower gas prices, he says. “In particular, we look for improvement from a recovery in housing and note that the sector is seasonally strong in the fourth quarter of the year. A strong dollar also is beneficial for companies that import from abroad and sell products in the U.S.”
Don’t give up on the defensives just yet, Rouse counters. “From a bottom-up perspective the areas where our teams have the most conviction are those with idiosyncratic drivers,” the Barclays research director reports. “These include traditional growth sectors — such as biotechnology, information-technology services and consumer finance — as well as more defensive sectors, including regulated utilities and managed care.”
Sectors to avoid, he adds, include autos, machinery, oil and gas exploration and production, and oil services.
“We see the U.S. growing at a steady 2.5 percent rate for the next four to five quarters,” he adds. “There will be some pressure on exports from a stronger dollar and softer global demand; however, personal consumption growth and business investment should remain fairly robust.”
Morgan Stanley is also constructive on consumer discretionary and financials, according to David Adelman, a member of the All-America Research Team Hall of Fame who was promoted to head of Americas equity research last fall. “Our view is that this could be a very long expansion — perhaps even as long as 2020, given the lack of catalysts to cause a meaningful economic or earnings recession in the coming quarters,” he says. “Our sense is that corporate earnings will assuage fears of a global growth meltdown. While absolute earnings growth will likely only be in the low single digits, the U.S. also has a net buyback of over 2 percent, and expectations are now quite low.”
Investors shouldn’t equate diminished expectations with market doom. “Industrials, financials and technology are all sectors that outperform when growth improves,” notes Trahan, of Cornerstone Macro. “The opposite is the defensives, where investors have been hiding during the slowdown. These sectors now have a premium in their price, so they are vulnerable to better growth. They offer stability, which is great when growth slows but a disaster when it improves. It’s time to think offense.”