Moving beyond traditional sector rotation

For decades, sector rotation has been the go-to strategy for aligning portfolios with the economic cycle. The logic was simple: shift toward defensive sectors like utilities and health care in downturns and lean into cyclical sectors like tech and consumer discretionary during expansions. But the results haven’t matched the theory.

The growing complexity of today’s market — driven by innovation, economic shifts and evolving business models — has exposed major flaws in this approach. Market timing is hard. Sector classifications are outdated. And most importantly, the data shows that sector performance doesn't reliably track economic cycles.

Let’s explore a new approach that goes beyond conventional classifications to help investors manage equity exposure more effectively.

Limitations of traditional sector rotation

1. Rigid and outdated classification: traditional sector classification systems often misclassify disruptive companies that operate across multiple industries. For example, companies like Uber, PayPal and Airbnb are grouped under different sectors despite behaving more like technology or consumer discretionary companies.
2. Inconsistent sector synchronization with the economic cycle: many academic studies have challenged the effectiveness of sector rotation in delivering significant or consistent excess returns. Historical data shows that defensive sectors do not consistently outperform during contraction phases, and cyclical sectors do not always outperform during expansion phases.
3. High dispersion and low correlation across sectors: there's a growing trend of greater performance dispersion among companies within certain sectors and lower correlation among companies in sectors like health care and industrials.

Mackenzie’s defensive/cyclical strategy

In response to these limitations, Mackenzie's Multi-Asset Strategies Team has developed a unique bottom-up systematic strategy. This approach focuses on individual company characteristics and their response to economic growth, rather than sector classification.

Investment process

1. Classification model: companies are grouped into defensive or cyclical categories based on their sensitivity to economic activity.
2. Risk model: risk constraints are applied to minimize idiosyncratic risk while maximizing defensive/cyclical tilts.
3. Factor optimizer: companies are ranked based on defensive or growth features.
4. Portfolio construction: portfolios are built with companies that have the best growth or defensive scores.

Benefits for investors

1. Alternative to sector rotation: the defensive and cyclical tilt strategies simplify portfolio construction by consolidating multiple sector exposures into a single solution.
2. Complement core exposure: investors can use these strategies to complement their core equity exposure and adjust their portfolio tilt based on the stage of the economic cycle.

Mackenzie offers two ETFs that implement this strategy: the Mackenzie Defensive Tilt ETF (MDEF) and the Mackenzie Cyclical Tilt ETF (MCYC), both with a management fee of 0.55%.

To learn more about Mackenzie’s defensive and cyclical strategies, please reach out to your Mackenzie sales representative.

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