The economic recovery is a funny thing. Just when things really start picking up, the market narrows and many stocks are left in the dust. How does this happen? Let me explain by laying out each step of a typical recovery:
In the initial stages of the recovery, the market generally experiences broad-based strength. This is the rising tide that lifts all boats. Interestingly, lower-quality stocks sometimes start out even faster in this stage than higher-quality stocks because they were punished so deeply in the previous selloff. Hopeful investors who want to make back what they lost all pile into stocks. However, these low-quality stocks flame out fast about midway through this stage as investors bank short-term gains and start getting serious about their investments. It is of critical importance that you don’t get caught up in the hype. This is why, even though the hardest-hit sectors — like financials — were seeing a rebound in April 2010 and the early months of 2011, I made sure to steer clear. These stocks saw irrational buying pressure and had no fundamental strength — they quickly reversed and are trading as much as 60% lower.
In the next stage, we begin to see a shift of leadership into sectors — some sectors will perform significantly better than others. At this time, higher-quality stocks are clear market leaders, but there still is a lot of correlation of stock movement within individual sectors. A perfect example is when you see Apple (NASDAQ:AAPL) make a big announcement and the whole sector perks up. Most of the gains go to fundamentally strong companies, but, for the most part, everyone wins.
Finally, in the third stage of a stock market recovery, the market begins to lose breadth and power. This is because the market no longer rewards all stocks for sector developments, but instead only bids up the specific companies that are directly involved. This is the stage of the recovery that will dominate 2012. In this environment, it is increasingly important to be certain that you are not just in the right sector, but invested the right stock(s) in that sector. This is the time the wheat is separated from the chaff and where stock-picking prevails.
This is exactly why I steered you in my last article toward the hottest stocks in the hottest sectors with the most upside potential. And right now, the majority of the best stocks have been confined to three sectors — namely, consumer staples, health care and utilities — and within these sectors are the best-of-the-best companies that will take the lion’s share of the profits.
While I fully expect the sector strength to break down as we work our way through the third stage of the recovery, we’re in for a spectacular rise. Just take a look at these four outstanding biotechnology and drug companies that will be poised to surge higher in 2012:
- Jazz Pharmaceuticals (NASDAQ:JAZZ),
- Questcor Pharmaceuticals (NASDAQ:QCOR)
- Spectrum Pharmaceuticals (NASDAQ:SPPI)
- Valeant Pharmaceuticals (NYSE:VRX)
Also, with crude oil prices over $100 per barrel, I expect these energy stocks also will be spectacular in the coming weeks and months. I’m especially expecting significant outperformance from these three profitable refining companies:
- Arabian American Development (NASDAQ:ARSD)
- CVR Energy (NYSE:CVI)
- Delek U.S. Holdings (NYSE:DK)
These five booming oil service companies also have made my list of favorites:
- Complete Production Services (NYSE:CPX)
- Carbo Ceramics (NYSE:CRR)
- Flotek Industries (NYSE:FTK)
- Mitcham Industries (NASDAQ:MIND)
- RPC (NYSE:RES)
Lastly, these two high-yielding pipeline companies should not be left out of anyone’s portfolio:
- DCP Midstream Partners (NYSE:DPM)
- Plains All American Pipeline (NYSE:PAA)
These stocks are some of the best opportunities available to investors for interested in emerging growth stocks, and I’m expecting that these stocks will lead the market higher. Their fundamentals speak for themselves, and their recent performance is spectacular.