• Earlier this year, names tied to reopening, that were economically sensitive or trending on Reddit flew high.
• Tech stocks, which carried the market in 2020, slumped in the earlier part of this year as investors flocked to other sectors in the market.
• In mid-March, the tune changed and tech stocks began to rise. It could be that investors are focusing on fundamentals, rather than jumping on trendy themes and sectors.

Sometimes you can feel the wind shift directions right as it happens: on a boat, a bike, or even standing outside.

That is how it felt a few weeks ago when I saw that the biggest movers in our portfolio included an unfamiliar mix: a few large tech names, an industrial, a financial, and a real estate company. 

That caught my eye because for weeks, if not months, what worked were stocks within three categories: reopening (airlines, casinos, hotels), economically sensitive (energy, machinery, banks), and the hot momentum stocks (Reddit's WallStreetBets).

What hadn't worked were highly durable quality growth stocks, particularly in technology and communications, such as Apple, PayPal, Facebook, Netflix, and Amazon, that propelled the market forward in 2020 due to their remarkable growth during the pandemic. 

These companies that thrived amid Covid lost their luster once the hope of effective vaccines and emergence from purgatory became a reality.

Emerging in a recovery

As the table below illustrates, the first two-and-a-half months of the year were massive for the energy, financials, and industrial sectors that would bounce back hard with strong gross domestic product growth.

Technology, the 2020 winner, trailed these groups as well as the overall S&P 500. 

In addition, January brought frenzied buying by retail and professional investors of dozens of exciting cloud computing, electric vehicle-related, and biotech vertical stocks, while Reddit and Robinhood message boards fueled unprecedented trading in GameStop, AMC Entertainment, and an unlikely cohort of market darlings.

The mania died down in mid-February, and most of these stocks retreated, some significantly.

Then, in mid-March, the wind changed.

By the time I had gotten sick of yelling at TV commentators who insisted that the only stocks worth owning were the "reopening trade," Apple, Netflix, and Google began to show some signs of life again.

The QQQ ETF, a good proxy for large-cap technology stocks, had risen about 7% year to date compared to the S&P 500 Value index's 12.3% gain.

Meanwhile, the QQQ ETF is up just over 5% from March 15^th through today, compared to about 1.1% for the value names.  

Beyond a case of investors selling high and buying low, what is behind this move?

Fundamentals in focus

One idea that seemed worth investigating is whether the market has become more discerning about fundamentals rather than buying simply based on a theme (reopening), sector (energy), new technology (EV), or proponent (Reddit).

The table above illustrates how investors responded, over the past three months, to changes in Wall Street analysts' 2022 earnings per share estimates for companies under their coverage, seen as a proxy for improving or deteriorating fundamentals.

The report selected the 25 stocks across all U.S. public equities with the greatest number of upward or downward earnings revisions in that month. Generally, stocks respond favorably to higher expected earnings and negatively to estimate downgrades. 

However, we can observe from the numbers above that, in January, when the S&P was down 1% and February, when the index inched up 1%, these 50 stocks did not react in lockstep to the direction of their adjusted estimates. They all moved higher. 

It could be that buy-side investors, either institutional or retail, were more enthusiastic about 2022 estimates than Street analysts, or that big picture concepts about economic recovery and stimulus programs were driving buyers toward the names most mentioned in the media, whether the news was good or bad.

The saying "all press is good press" used to have more adherents in the days before social media, but it seems applicable here.  

From March through April 5th, the companies with the most positive revisions gained, on average, 8.1%, while those with weakening earnings forecasts lost 9.8%, exhibiting the expected follow-through.

Semiconductors (Micron, Broadcom), housing-related (Lennar, RH), and energy stocks (Pioneer, Exxon, and Devon) were all buoyed by favorable industry trends among the upward-revision group.

Within the down-trending contingent were several of the gravity-challenging software stocks (Coupa, Okta, Cloudera, Guidewire) and even Reddit forum stocks (Discovery), all of which deflated toward earth.  

We have experienced some periods of intense speculative bullishness in recent months, but even when they subside, the market has found stable ground.

The key to a sustained rally will be corporate earnings across multiple sectors that exceed forecasts as the pandemic threat fades and economies rebound. Of course, that is much easier said than done, particularly when wind shifts are an ever-present risk.

Karen Firestone is chairman, CEO, and co-founder of Aureus Asset Management, an investment firm dedicated to providing contemporary asset management to families, individuals and institutions.