Cyclical stocks with high growth momentum offer growth prospects complementing those of highly rated ...
David Mathers, director of research at Credit Suisse First Boston, says: "In early 2000 we have seen an almost unprecedented structure to the relative valuation of stocks within the equity market.
"The gap between high and low P/E stocks has hardly ever been wider. The world of low inflation and the specific role technology plays in underpinning this does argue for such a change.
"Cyclical influences still have a role to play and we particularly see them doing so in the early part of the year. Our portfolio recommendations represent something of a 'bar-bell' between cyclicals and growth stocks. Whether 'old economy' or 'new economy', the unifying theme is that they display considerable growth momentum.
"The 'new economy' is not the only subject of relevance. There is plenty going on within the 'old economy' with cyclical indicators all pointing north. Within the US it can be highlighted that it is the 'old economy' industries that are providing the greater momentum to growth at present. While some degree of inventory accumulation is probably at work, bottom-up contact suggests it is dangerous to dismiss it as just that. Genuine demand is a key driver."
This point is particularly relevant within Europe, as a recent leap in the German IFO survey of business confidence and new orders data highlighted, Mathers says.
"While the consensus certainly had been expecting a recovery in Europe throughout the second half of 1999, the pace of it is still surprising. We have recently raised our own 2000 GDP forecasts from 3% to 3.5% for the euro zone.
"The euro's enduring weakness is having a sizeable effect on the tradeable side of the European economies, gearing the benefits of the buoyant global growth background. We expect analyst earnings forecasts to be reacting in a similar positive fashion as we run into the spring results season. Phases of currency weakness would typically lead to a broader base to performance."
Richard Webb, fund manager at Fleming Investment Management, says: "It is true cyclical stocks have good earnings momentum but they are no longer cheap on a fundamental basis relative to their own historical valuations. They are, however, cheap relative to the market.
"The biggest risk now is that these companies start to invest their cashflow in plant. Cyclicals also traditionally outperform when the yield curve is steepening and we are now seeing the curve flattening."
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