Theme Four: The Rush to Disassociate

"If the 90s were about wealth, accumulation and consumption, 2008 will continue the mean reversion toward something altogether more austere, if not more sensible. Debt reduction and the rejection of (and guilt projection toward) materialism will continue what began in 2006 and 2007 as meditations on not just doing more with less, but doing less... period."

This theme is appearing virtually everywhere we look, from reductions in corporate bonuses to rejections of materialism and the trappings of wealth, affecting everything from services we previously may have taken for granted (lawn care, auto detailing, dry cleaning) to restaurants (the emergence of the "Recession Special") and film, music and entertainment.

Grade: A


Theme Five: What to Do?

"The areas I believe we want to avoid remain the Financials and Consumer Discretionary sectors. What about Energy? As we noted in the first theme on Deflation, this sector has benefited for many years now from the near-unwavering upward movement in crude oil prices. It's now the officially "crowded" sectors. When we first began writing about the Energy sector in 2002 it carried a paltry 6% weighting in the S&P 500 . Over the past five years it has more than doubled and now comprises nearly a 13% weighting in the S&P 500.

This does not mean the secular trends benefiting Energy and Basic Materials is over. After all, in 1980 Energy and Basic Materials together made up nearly 40% of the S&P 500's weighting; today they make up a little less than half that. It just means we may need to take a break from their outperformance for a little while.

As 2007 marked the conclusion of the long-term outperformance cycle for small caps, 2008 I believe will mark a continued turn toward large cap and defensive sectors. Among the ones I like are Healthcare and Consumer Staples."

This theme has been mixed. Even defensive sectors suffered in the first leg down of the market-wide deflationary debt unwind. Some traditional defensive companies failed to unwind commodities hedges in time to benefit from lower input costs. But more than anything we saw a universal decline in nearly all stocks as fundamentals detached from the overall theme of deleveraging.

Among the stocks I thought might buck that trend last year were:

CVS Corp. (CVS)
Groupe Danone, ADR (GDNNY)
Hologic (HOLX)
Magellan Health Services, Inc. (MGLN)
Pediatrix Medical Group (PDX)
Procter & Gamble (PG)
Reynolds American (RAI)

The results there were mixed. Overall those seven stocks did outperform the broad market, declining less than the S&P 500, but you can't spend relative outperformance when it is negative. This was a pure trader's market, and those who failed to recognize it as such and adapt suffered losses.

Grade: C