Defensive stocks have lagged. They can be ripe for picking.

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Defensive stocks have lagged the stock market. Many are now trading at serious discounts and could be ready for big profits for the next year and beyond.

Since September 23, the beginning of the current rally, cyclical value stocks – those most sensitive to the economy such as manufacturers, banks and oil stocks – have largely led the market. And as the economic recovery is expected to continue, earnings for cyclicals could explode in the near term.

Cyclical stocks have outperformed defensive stocks – stocks with stable earnings regardless of the economic environment. Since September 23, the

iShares S&P 500 Utilities

Exchange Traded Fund (IUUS) is up 8%. The

Vanguard Consumer Staples Index

ETF (VDC) is up 8%. Meanwhile, it is economically sensitive

Industrial Select Sector SPDR

ETF (XLI) is up 16%. The

SPDR S&P Bank ETF

ETF (KBE) is up 46%. The

Energy Select Sector SPDR

ETF (XLE) is up 23%. But the benefit of cyclical stocks may be limited.

Defensive stocks now look attractive based on some measures, such as forward price / earnings ratios and dividend yields.

Shares of health insurance companies trade at a discount of approximately 27% on the expected price / earnings ratio to the average

S&P 500

stock, according to analysts at JP Morgan. Major health insurers have been trading in line with the S&P 500 since 2000. According to FactSet, health care revenues are expected to grow in the middle single digits over the next two years.

S&P 500 utilities are trading at a valuation discount of 18% against the broader index. S&P 500 consumer goods are 6% cheaper than the average stock on the index. Profits for both sectors are expected to rise mid-single digit growth over the next two years.

It is true that strategists are not looking for profit multiples to grow meaningfully from here, as the low interest rates that are driving investors to equities have little room to decline. But the multiples of defenders can have a meaningful advantage. Take

Mondelez International

(MDLZ), which is trading at 20.7 times earnings. If it can trade up to 22 times earnings, the stock would likely rise to $ 67.32, 15% above its current level by the end of 2021 – when it values ​​earnings for 2022.

Staples and utilities also offer dividends, padding returns.

“There is certainly good argument for utilities and consumer staples on a relative basis to bonds,” said David Miller, chief investment officer at Catalyst Capital Advisors. Barron’s.

Consolidated Edison

(ED) offers a 4.3% dividend yield.

Kimberly-Clark

(KMB) offers a yield of 3.2%.

Even if defensive stocks lack a catalyst as the economy picks up, they are a good bet after next year.

Some defensive stocks have already started to take off. Health insurance

UnitedHealth

(UNH),

Hymn

(ANTM), and

Cigna

(CI) rose in early November after the presidential election, as the chances of a Democratic sweep in Congress diminished sharply, closing the door on strict industry regulation. Yet health insurers have lagged years to date, making them cheap on a valuation basis.

Write to Jacob Sonenshine at [email protected]