Looking For Value In Today's Market? Avoid These Sectors

| About: SPDR S&P (SPY)
This article is now exclusive for PRO subscribers.

Summary

The S&P 500 Index is trading at the most expensive valuation in a decade.

There are three sectors inflating the S&P 500 Index's multiples.

These three expensive sectors should be avoided by investors seeking value.

(Source: Yardeni Research, Inc.)

Abstract:

The S&P 500 Index (NYSEARCA:SPY) - often used as a measure of the overall market - is trading at the highest multiples it has seen in over a decade. At roughly 17 times forward earnings, value investors are having a more difficult time than ever looking for names in which to invest. With that in mind, I have laid out what sectors are "must-avoids" as they are the most expensive as well as a few sectors that look like they could be the beneficiary of a value-oriented comeback in the market.

The Importance of Finding Value in Today's Market:

As I laid out in significantly more detail in one of my latest articles, Value Is About To Make A Comeback In A Big Way, I anticipate that value stocks are about to outperform growth stocks over the next five years for the following reasons:

  • Value has lagged growth since mid-2010, with the gap widening especially over the past year.
  • Value has been shown to outperform over longer periods of time.
  • Fearful investors will flee expensive growth stocks in anticipation of a market correction.
  • Most importantly of all, however, growth will significantly underperform value in a rising-rate environment.

Looking for growth is especially difficult in at a time when the S&P 500 Index trades at the highest level it has ever traded and the highest forward P/E multiple in a decade, having more than tripled in value in the last six years all without having faced a twenty percent decline. Now, more than ever, therefore it is important to determine which sectors are still cheap and which are the overvalued culprits of today's expensive market.

Valuation Criteria:

This article will focus chiefly on two key metrics:

  1. The Forward Price-to-Earnings Multiple (Forward P/E), and
  2. The Price-to-Earnings-to-Growth Ratio (PEG Ratio)

The Forward P/E Multiple is an important valuation metric as it shows how expensive each sector is based upon future earnings expectations. For this reason, the Forward P/E Multiple often offers more insight into the future performance of the sector than does a Trailing Price-to-Earnings Multiple (Trailing P/E).

The PEG Ratio is equally as important a valuation metric as the Forward P/E Multiple. The PEG ratio takes into account not simply how expensive the sector is based on forward earnings expectations, but also how expensive the sector is based on its future growth expectations. For this reason, the PEG ratio was a favorite of investing icon, Peter Lynch (source).

Comparison Basis:

This article will determine how expensive each sector is by applying the following two comparisons:

  1. Relative to the S&P 500 Index as a whole, and
  2. Relative to the sector's historical levels

As you will see, some sectors historically trade at higher Forward P/E Multiples and PEG ratios. Therefore, simply because a sector trades at higher multiples than the Index as a whole does not necessarily mean that it is more expensive.

The S&P 500 Index:

(Source: Yardeni Research, Inc.)

The S&P 500 Index currently trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 16.6x
  • Price-to-Earnings-to-Growth Ratio (NYSE:PEG): 1.6

(Note: Data accurate as of August 12th, 2015)

Examining Each Sector:

Now let's examine each sector individually. At the end we will be able to determine which are necessary to avoid for value investors, and which (if any) still show potential upside.

(Source: Yardeni Research, Inc.)

Telecommunication Services:

(Source: Yardeni Research, Inc.)

The Telecommunication Services sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 12.6x
  • Price-to-Earnings-to-Growth Multiple : 1.8

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Telecommunication Services sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 0.8, meaning that the Telecommunication Services sector trades at a lower Forward P/E than the S&P 500 Index as a whole. This makes the Telecommunication Services sector less expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Telecommunication Services sector trades at a Price-to-Earnings-to-Growth Ratio of 1.8. This is higher than the S&P 500 Index, which trades at a PEG of 1.6. On a relative basis, therefore, the Telecommunication Services sector is more expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Telecommunication Services sector trades at a lower Forward P/E Multiple than the S&P 500 Index, but at a higher PEG ratio. This tells me that the Telecommunication Services sector is cheap, but cheap for a reason: lower growth expectations. Overall, however, I would say that the PEG ratios of the sector and the Index as a whole are roughly similar with the sector's Forward P/E being certainly lower than that of the Index. As a value investor, I like this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Telecommunication Services sector trades at a Forward P/E of 12.6x. This is certainly on the lower end of the sector's historical spectrum, with the historical low being around 8x in 2008 and the historical high being around 28x in 1999. The sector's average appears to be around 15x. This makes the Telecommunication Services sector inexpensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Telecommunication Services sector trades at a Price-to-Earnings-to-Growth Ratio of 1.8. This is around or slightly below the sector's historical average of 2.25. This makes the Telecommunication Services sector inexpensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Telecommunication Services sector trades at both a lower Forward P/E Multiple and a lower PEG ratio than its historical average. As a value investor, I like this sector relative to its historical levels.

Telecommunication Services Sector Overall Determination:

As it is inexpensive on both index-relative and history-relative levels, I feel the Telecommunication Services sector to be an excellent sector in which to find value in today's market.

Utilities:

(Source: Yardeni Research, Inc.)

The Utilities sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 15.7x
  • Price-to-Earnings-to-Growth Multiple : 3.3

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Utilities sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 0.9, meaning that the Telecommunication Services sector trades at a lower Forward P/E than the S&P 500 Index as a whole. This makes the Utilities sector less expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Utilities sector trades at a Price-to-Earnings-to-Growth Ratio of 3.3. This is significantly higher than the S&P 500 Index, which trades at a PEG of 1.6. On a relative basis, therefore, the Utilities sector is significantly more expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Utilities sector trades at a slightly lower Forward P/E Multiple than the S&P 500 Index, but at a much higher PEG ratio. This tells me that the Utilities sector is somewhat cheap, the much lower growth expectations for the sector relative to the index make it actually more expensive than the Index as a whole. Let's also not forget that as interest rates rise, the Utilities stocks -which typically pay a large dividend - will face a significant headwind. As a value investor, I would avoid this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Utilities sector trades at a Forward P/E of 15.7x. This is certainly on the higher end of the sector's historical spectrum, with the historical low being around 6x in 2002 and the historical high being around 18x just last year. The sector's average appears to be around 12x. This makes the Utilities sector expensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Utilities sector trades at a Price-to-Earnings-to-Growth Ratio of 3.3. This is above the sector's historical average of 2.5. This makes the Utilities sector somewhat expensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Utilities sector trades at a both a higher Forward P/E Multiple and a higher PEG ratio than its historical average. As a value investor, I would avoid this sector relative to its historical levels.

Utilities Sector Overall Determination:

As it is expensive on both index-relative and history-relative levels, I feel the Utilities sector to be a "must-avoid" sector in today's market.

Energy:

(Source: Yardeni Research, Inc.)

The Energy sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 22.1x
  • Price-to-Earnings-to-Growth Multiple : 3.0

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Energy sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 1.3, meaning that the Energy sector trades at a higher Forward P/E than the S&P 500 Index as a whole. This makes the Energy sector more expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Energy sector trades at a Price-to-Earnings-to-Growth Ratio of 3.0. This is significantly higher than the S&P 500 Index, which trades at a PEG of 1.6. On a relative basis, therefore, the Energy sector is significantly more expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Energy sector trades at a much higher Forward P/E Multiple than the S&P 500 Index and at a much higher PEG ratio. This tells me that the Energy sector is very expensive relative to the Index on both an absolute price level basis as well as on a growth expectation basis. As a value investor, I would avoid this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Energy sector trades at a Forward P/E of 22.1x. This is certainly on the higher end of the sector's historical spectrum, with the historical low being around 5x in 2008 and the historical high being around 30x just a few months ago. The sector's average appears to be around 14x. This makes the Energy sector very expensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Energy sector trades at a Price-to-Earnings-to-Growth Ratio of 3.0. This is above the sector's historical average of 1.5. This makes the Energy sector very expensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Energy sector trades at a both a much higher Forward P/E Multiple and a much higher PEG ratio than its historical average. As a value investor, I would avoid this sector relative to its historical levels.

Energy Sector Overall Determination:

As it is very expensive on both index-relative and history-relative levels, I feel the Energy sector to be a "must-avoid" sector in today's market.

Industrials:

(Source: Yardeni Research, Inc.)

The Industrials sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 15.7x
  • Price-to-Earnings-to-Growth Multiple : 1.6

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Industrials sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 0.9, meaning that the Industrials sector trades at a slightly lower Forward P/E than the S&P 500 Index as a whole. This makes the Industrials sector less expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Industrials sector trades at a Price-to-Earnings-to-Growth Ratio of 1.6. This is the same as the S&P 500 Index. On a relative basis, therefore, the Industrials sector is no more expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Industrials sector trades at a lower Forward P/E Multiple than the S&P 500 Index and at the same PEG ratio. This tells me that the Industrials sector is on par with the Index relative to growth, but is slightly less expensive on an absolute Forward Price-to-Earnings basis. As a value investor, I am somewhat bullish on this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Industrials sector trades at a Forward P/E of 15.7x. This is roughly in line with the sector's historical average, with the historical low being around 7x in 2009 and the historical high being around 22x in 2001. The sector's average appears to be around 16x. This makes the Industrials sector somewhat inexpensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Industrials sector trades at a Price-to-Earnings-to-Growth Ratio of 1.6. This is above the sector's historical average of 1.25. This makes the Industrials sector expensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Industrials sector trades at a somewhat discounted Forward P/E Multiple relative to its historical average, but at a higher PEG Ratio. As a value investor, I am neutral on this sector relative to its historical levels.

Industrials Sector Overall Determination:

As I am neutral on the Industrials sector on both a S&P 500 Index-relative and a history-relative basis, I remain neutral on the Industrials sector overall.

Materials:

(Source: Yardeni Research, Inc.)

The Materials sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 15.2x
  • Price-to-Earnings-to-Growth Multiple : 1.6

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Materials sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 0.9, meaning that the Materials sector trades at a slightly lower Forward P/E than the S&P 500 Index as a whole. This makes the Materials sector less expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Materials sector trades at a Price-to-Earnings-to-Growth Ratio of 1.6. This is the same as the S&P 500 Index. On a relative basis, therefore, the Materials sector is no more expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Materials sector trades at a lower Forward P/E Multiple than the S&P 500 Index and at the same PEG ratio. This tells me that the Materials sector is on par with the Index relative to growth, but is slightly less expensive on an absolute Forward Price-to-Earnings basis. As a value investor, I am somewhat bullish on this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Materials sector trades at a Forward P/E of 15.2x. This is roughly in-line with the sector's historical average, with the historical low being around 7x in 2008 and the historical high being around 22x in 2009. The sector's average appears to be around 15x. This makes the Materials sector in-line on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Materials sector trades at a Price-to-Earnings-to-Growth Ratio of 1.6. This is in-line with the sector's historical average of 1.6. This makes the Materials sector in-line on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Materials sector trades in-line with historical averages on both a Forward P/E Multiple and PEG Ratio. As a value investor, I am neutral on this sector relative to its historical levels.

Materials Sector Overall Determination:

As I am neutral on the Materials sector on both a S&P 500 Index-relative and a history-relative basis, I remain neutral on the Materials sector overall.

Consumer Staples:

(Source: Yardeni Research, Inc.)

The Consumer Staples sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 19.9x
  • Price-to-Earnings-to-Growth Multiple : 2.4

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Energy sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 1.2, meaning that the Consumer Staples sector trades at a higher Forward P/E than the S&P 500 Index as a whole. This makes the Consumer Staples sector more expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Consumer Staples sector trades at a Price-to-Earnings-to-Growth Ratio of 2.4. This is significantly higher than the S&P 500 Index, which trades at a PEG of 1.6. On a relative basis, therefore, the Consumer Staples sector is significantly more expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Consumer Staples sector trades at a much higher Forward P/E Multiple than the S&P 500 Index and at a much higher PEG ratio. This tells me that the Consumer Staples sector is very expensive relative to the Index on both an absolute price level basis as well as on a growth expectation basis. As a value investor, I would avoid this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Consumer sector trades at a Forward P/E of 19.9x. This is on the higher end of the sector's historical spectrum, with the historical low being around 11x in 2009 and the historical high being around 25x in 1999. The sector's average appears to be around 17x. This makes the Consumer Staples sector expensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Consumer Staples sector trades at a Price-to-Earnings-to-Growth Ratio of 2.4. This is above the sector's historical average of 1.5. This makes the Consumer Staples sector very expensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Consumer Staples sector trades at a both a higher Forward P/E Multiple and a much higher PEG ratio than its historical average. As a value investor, I would avoid this sector relative to its historical levels.

Consumer Staples Sector Overall Determination:

As it is very expensive on both index-relative and history-relative levels, I feel the Consumer Staples sector to be a "must-avoid" sector in today's market.

Financials:

(Source: Yardeni Research, Inc.)

The Financials sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 14.0x
  • Price-to-Earnings-to-Growth Multiple : 1.3

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Financials sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 0.8, meaning that the Financials sector trades at a lower Forward P/E than the S&P 500 Index as a whole. This makes the Financials sector less expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Financials sector trades at a Price-to-Earnings-to-Growth Ratio of 1.3. This is lower than the S&P 500 Index, which trades at a PEG of 1.6. On a relative basis, therefore, the Financials sector is less expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Financials sector trades at both a lower Forward P/E Multiple and a PEG Ratio than the S&P 500 Index. This tells me that not only are the Financials cheap on an absolute basis, but they are also discounted relative to growth to the Index as a whole. As a value investor, I like this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Financials sector trades at a Forward P/E of 14x. This is slightly higher than the sector's historical spectrum, with the historical low being around 7x in 2008 and the historical high being around 18x in 2009. The sector's average appears to be around 12.5x. This makes the Financials sector somewhat expensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Financials sector trades at a Price-to-Earnings-to-Growth Ratio of 1.3. This is in-line with the sector's historical average of 1.3. This makes the Financials sector in-line on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Financials sector trades at a slightly higher Forward P/E Multiple than its historical average and a PEG ratio that is in line with its historical average. As a value investor, I am neutral on this sector relative to its historical levels.

Financials Sector Overall Determination:

As it is certainly inexpensive on index-relative basis and is in-line with its historical levels, I feel the Financials sector to be an excellent sector in which to find value in today's market.

Health Care:

(Source: Yardeni Research, Inc.)

The Health Care sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 17.5x
  • Price-to-Earnings-to-Growth Multiple : 1.5

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Health Care sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 1.1, meaning that the Health Care sector trades at a slightly higher Forward P/E than the S&P 500 Index as a whole. This makes the Health Care sector slightly more expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Health Care sector trades at a Price-to-Earnings-to-Growth Ratio of 1.5. This is slightly lower than the S&P 500 Index, which trades at a PEG Ratio of 1.6. On a relative basis, therefore, the Health Care sector is slightly less expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Health Care sector trades at a slightly higher Forward P/E Multiple than the S&P 500 Index and at a slightly lower PEG ratio. This tells me that the Health Care sector is on par with the Index on both an absolute level and relative to growth. As a value investor, I am neutral on this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Health Care sector trades at a Forward P/E of 17.5x. This is slightly below the sector's historical average, with the historical low being around 9x in 2009 and the historical high being around 33x in 1999. The sector's average appears to be around 19x. This makes the Health Care sector inexpensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Health Care sector trades at a Price-to-Earnings-to-Growth Ratio of 1.5. This is slightly higher than the sector's historical average of 1.35. This makes the Health Care sector slightly expensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Health Care sector is slightly inexpensive on a Forward P/E basis relative to historical levels, and slightly expensive on a PEG Ratio basis. As a value investor, I am neutral on this sector relative to its historical levels.

Health Care Sector Overall Determination:

As I am neutral on the Health Care sector on both a S&P 500 Index-relative and a history-relative basis, I remain neutral on the Health Care sector overall.

Consumer Discretionary:

(Source: Yardeni Research, Inc.)

The Consumer Discretionary sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 19.0x
  • Price-to-Earnings-to-Growth Multiple : 1.2

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Consumer Discretionary sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 1.1, meaning that the Consumer Discretionary sector trades at a slightly higher Forward P/E than the S&P 500 Index as a whole. This makes the Consumer Discretionary sector slightly more expensive on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Consumer Discretionary sector trades at a Price-to-Earnings-to-Growth Ratio of 1.2. This is lower than the S&P 500 Index, which trades at a PEG Ratio of 1.6. On a relative basis, therefore, the Consumer Discretionary sector is less expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Consumer Discretionary sector trades at a slightly higher Forward P/E Multiple than the S&P 500 Index and at a lower PEG ratio. This tells me that the Consumer Discretionary sector is on par with the Index on an absolute price level, and is somewhat inexpensive relative to growth. As a value investor, I am somewhat bullish on this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Consumer Discretionary sector trades at a Forward P/E of 19.0x. This is slightly below the sector's historical average, with the historical low being around 11x in 1995 and the historical high being around 27x in 2001. The sector's average appears to be around 21x. This makes the Consumer Discretionary sector inexpensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Consumer Discretionary sector trades at a Price-to-Earnings-to-Growth Ratio of 1.2. This is slightly lower than the sector's historical average of 1.4. This makes the Consumer Discretionary sector slightly inexpensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Consumer Discretionary sector is slightly inexpensive on both a Forward P/E basis and a PEG Ratio basis. As a value investor, I am somewhat bullish on this sector relative to its historical levels.

Consumer Discretionary Sector Overall Determination:

As I am somewhat bullish on the Consumer Discretionary sector on both a S&P 500 Index-relative and a history-relative basis, I remain somewhat bullish on the Consumer Discretionary sector overall.

Information Technology:

(Source: Yardeni Research, Inc.)

The Information Technology sector trades at the following levels:

  • Forward Price-to-Earnings Multiple (Forward P/E): 15.8x
  • Price-to-Earnings-to-Growth Multiple : 1.2

Relative to the S&P 500 Index:

The Forward Price-to-Earnings Multiple (Forward P/E):

As can be seen from the above charts, the Information Technology sector trades at a Relative Price-to-Earnings Multiple (Relative P/E) of 1.0, meaning that the Information Technology sector trades in-line with the S&P 500 Index as a whole. This makes the Information Technology sector in-line on a relative basis.

The Price-to-Earnings-to-Growth Ratio :

The Information Technology sector trades at a Price-to-Earnings-to-Growth Ratio of 1.2. This is lower than the S&P 500 Index, which trades at a PEG of 1.6. On a relative basis, therefore, the Information Technology sector is less expensive than the Index as a whole relative to growth.

Index-Relative Sector Valuation Determination:

The Information Technology sector trades in-line with the S&P 500 on a Forward P/E basis, and at a lower PEG Ratio. This tells me that the Information Technology sector is discounted relative to growth to the Index as a whole. As a value investor, I like this sector relative to the S&P 500 Index.

Relative to Historical Levels:

The Forward Price-to-Earnings Multiple (Forward P/E):

As mentioned above, the Information Technology sector trades at a Forward P/E of 15.8x. This is on the lower end of the sector's historical spectrum, with the historical low being around 10x in 2011 and the historical high being around 48x in 2000. The sector's average appears to be around 25x. This makes the Information Technology sector very inexpensive on an historical basis.

The Price-to-Earnings-to-Growth Ratio :

The Information Technology sector trades at a Price-to-Earnings-to-Growth Ratio of 1.2. This is lower than the sector's historical average of 1.5. This makes the Information Technology sector inexpensive on an historical basis relative to growth.

Historical-Relative Sector Valuation Determination:

The Information Technology sector trades at a much lower Forward P/E Multiple than its historical average and a lower PEG ratio. As a value investor, I like this sector relative to its historical levels.

Information Technology Sector Overall Determination:

As it is inexpensive on both an Index-relative basis and a historical level basis, I feel the Information Technology sector to be an excellent sector in which to find value in today's market.

Takeaway:

To summarize, my findings on each sector within the S&P 500 Index are as follows:

  • Telecommunication Services: Excellent Sector for Value
  • Utilities: Must Avoid Sector for Value
  • Energy: Must Avoid Sector for Value
  • Industrials: Neutral Sector for Value
  • Materials: Neutral Sector for Value
  • Consumer Staples: Must Avoid Sector for Value
  • Financials: Excellent Sector for Value
  • Health Care: Neutral Sector for Value
  • Consumer Discretionary: Good Sector for Value
  • Information Technology: Excellent Sector for Value

To reiterate, these classifications were based on comparisons both between the individual sector and the S&P 500 Index as a whole as well as between the individual sector today and the historical metrics of that sector dating back to 1995 using the Forward Price-to-Earnings Multiple (Forward P/E) as well as the Price-to-Earnings-to-Growth Ratio . By that criteria, the three Must Avoid sectors for value investors are:

  1. Utilities
  2. Energy
  3. Consumer Staples

These are sectors with lofty multiples that are largely unsupported by their respective growth expectations, and value investors would be best served by avoiding them. With that said, it is undoubtedly possible that within each of those sectors there are specific companies which can still be considered excellent value plays. However, as sectors, I cannot recommend them with value investing in mind. I much prefer the following sectors:

  1. Telecommunication Services
  2. Financials
  3. Consumer Discretionary
  4. Information Technology

-Adam Janes, The Prosperity Active Yield Fund

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.