U.S. Stock Market Sectors With the Strongest Potential in 2008: Information Technology, Consumer Staples, and Healthcare

The healthcare sector currently has the best attributes for an overweight position, largely due to prospects for future growth in earnings and free cash flow. In healthcare, these are typically more immune to a slowdown in economic growth than is the case in other sectors. Furthermore, the payout ratio in healthcare is on a solid up-trend, which, when combined with strong growth of free cash flow, produces a good relative valuation.

The information technology sector also merits an overweight recommendation due to a positive outlook on both a fundamental and technical basis. The IT sector has outperformed other sectors in 2007, led by semiconductors, hardware, and networking. Payout ratios are rising in IT, and earnings prospects are supported by good penetration into strong overseas CapEx spending. In addition, industry consolidation continues in several of the sub-industries, as large companies try to broaden their product ranges.

The consumer staples sector also has a sizeable overweight recommendation, helped in part by its "defensive" nature in a slowing economy. The increasing exposure of this sector to global markets for new demand should bring benefits with the 3-year forecast showing profit growth of 4.9%, or 2.3 times higher than the historical average in this sector. Despite that stock prices in this sector haven risen sharply in 2007, the dividend yield remains above its historical average.

The financials sector is expected to continue to be impacted by weakness in housing and credit markets, write-downs of assets, and fears of economic recession. This will continue to affect related areas such as investment funds exposed to financial credits and real estate, as well as banks and other mortgage-related institutions. At some point during 2008, it is expected that greater stability will be achieved, improving the outlook for this sector.

The consumer discretionary sector, as well as certain parts of the industrials sector, merits an underweight based on expectations for slowing and more volatile profit growth. Several segments within the industrials sector will also be vulnerable to slowing domestic growth, such as those exposed to the weak U.S. automotive industry, and adverse conditions in the construction sector. Other segments within industrials look more attractive, partly due to their penetration into international markets where steadier growth is expected. These include transport and logistics, aerospace and defense, and industrial machinery. The good fundamental prospects for these are matched by positive readings in both the credit risk and technical momentum indicators.

The energy sector merits an underweight on the basis of relative valuation metrics and expectations of slowing future profits, which is expected to be hit by narrower margins and softening demand. The forecast is for a peak followed by a decline in oil prices. As a result, energy has one of the weakest forward profit growth expectations among all sectors for 2008. In addition, dividend payouts in the United States have not kept up with growth in profits during the past few years. This has lowered the dividend payout ratio to one-third the level seen on average since the 1990s. Many portions of the energy sector are committed to large scale projects and capital investments in coming years, which will slow the growth of future free cash flow.

Global Insight's sector rotation strategy is developed using the company's expert macroeconomic and industry analysis. It is part of its World Industry Service Stock Sector Benchmarks, which assists asset managers in identifying the most profitable sectors for investment in the U.S. and international stock markets. The World Industry Service sector rotation recommendations from last year, released in December 2006, proved to be particularly insightful as they accurately predicted a turning point in the real estate and consumer discretionary sectors, the only two sectors posting negative year-to-year returns in 2007.

To see the full sector rankings and for further information visit: www.globalinsight.com/SectorRotation.