Best stock sectors by decade

The best stock sectors in the last 50 years

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2010s

Not surprisingly, it was the information technology sector. Many people believe that this is because juggernauts Microsoft and Google rose to such prominence. But the industry that actually led the technology sector to outperform was semiconductors.

Analysts make this distinction since semiconductor stocks behave quite differently from most tech stocks, in that they are highly cyclical. That's because the semiconductor itself is similar to a commodity in that it is the raw material and beating heart of every computer. Also semiconductors quickly go from oversupplied to undersupplied depending on innovations in the tech space. This made for an industry ready to blast off just as the world was creating software packages for nearly everything.

More: Is index investing really just investing in Big Tech?

2000s

The 2000s will likely go down as one of the most difficult for buy-and-hold investors as it was book-ended by two recessions. The decade began with the recession stemming from the tech bubble bursting. This was followed by the economic slowdown after 9/11. The decade then ended with the Great Financial Crisis.

During this decade the S&P 500 was essentially flat and in fact returned an annual average of –0.95% (a far cry from its long-term average). It's hard to imagine any sector performing well. But there were sectors that didn't just survive this decade; they in fact thrived.

One thing is sure: It wasn't tech stocks. Many of the mega cap tech stocks we are all familiar with today essentially had a lost decade.

So what did do well during this abysmal decade? Energy and materials. At first this may seem counterintuitive since energy generally goes up when the economy is roaring and down when it's not. But though the American economy lacked demand for these in the 2000s, one country certainly didn't: China.

China joined the World Trade Organization in 2001. This heralded a new era in globalization. Throughout the decade, China averaged around 10% per year in GDP growth, a feat unheard of for a country of that size. And this success followed the stellar 1990s period in China.

All of this demand led to the energy sector taking off. Oil producers simply weren't ready for the tsunami of demand and scrambled to keep up. The energy sector of the S&P 500 during this period returned 144%, or an average of 14.4% a year. And remember that this was during a decade when the S&P 500 return was negative!

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1990s

This one won't be too hard to guess, but the best performing sector of the decade was the information technology sector. Technology solved countless problems. And free-flowing easy money led tech stocks to inflate a massive bubble. And if that bubble had burst just a few months earlier, we would likely be looking at a different stock sector for this decade.

People look back with awe at the returns tech companies provided during this decade. And those that got out in time made a pretty penny. One example (and there are many) was Dell Computers. This company's stock led the tech sector with a 91,863% rise between the end of 1989 and 1999.

But these remarkable returns ended up sowing the seeds of this sector's destruction.

1980s

The 1980s — famously remembered for excess and the birth of neo-liberal policy — opened with a recession. To fight the crazy high inflation of the 1970s, Federal Reserve Chair Paul Volker hiked the fed funds rate to more than 20%. This caused recession. But Volker's painful hikes worked. Inflation was tamed and the economy flourished.

This context explains why consumer staples was the leading sector of the decade. Americans now felt more confident than they had in a long time. And the emergence of a consumerist culture encouraged Americans to buy more than they had in the previous decade.

Investors went from being savers to being consumers. And this caused the success of this sector. The companies that produced the goods people now demanded experienced a boom in their share prices.

1970s

The final decade we will look at is the 1970s. It was a decade plagued by an economist's worst nightmare: stagflation. Stagflation was the worst of two worlds, in which inflation was persistently high and economic growth stubbornly anemic. During a normal inflationary period, growth (in nominal terms) accelerates. Not so with stagflation.

That is what led to the Volker hikes at the beginning of the 1980s. The stagflation was rooted in lower labor productivity and a consistent and growing budget deficit due to the ongoing slog of the Vietnam War. These slowed growth and introduced inflation, though it was not yet a disaster.

But then the 1973 oil embargo happened. As a response to the Israeli-Arab Yom Kippur War, Saudi Arabia and OPEC instigated a complete oil embargo to the West and overnight, energy prices skyrocketed. As a key component of inflation, once energy prices took off, so did inflation.

With all that in mind, it's not surprising to hear that energy once again topped the sector list. It produced a 73% real return between 1971 and 1981, or 7.3% per annum. Keep in mind that this return was during a period where inflation averaged in the low double digits.

Best returning assets in the 1970s (Source: MarketWatch)

What worked one decade may not work the next

What can investors take from all of this information? The most important thing to keep in mind is that generally speaking, the market moves in cycles. The sector that led the market in one decade will likely end up overvalued and be surpassed by another sector in the next decade.

Investors should also keep an eye out for some exogenous factor that sets the tone for what the leading sector will be. In the 2000s it was China's unstoppable demand for commodities, and in the 1990s it was innovations in software and the growth of the internet.

A keen investor should look at what the big trend is. Of course at any given moment there are dozens of trends going in all sorts of directions. But across a decade there is generally one trend that stands above the rest. In the 1970s stagflation combined with a sudden oil shock was the catalyst for the best performing sector. In the 2010s, low interest rates allowed large cap tech stocks with high levels of free cash flow to dominate.

Finally, it's important to note that looking at this from a decade by decade basis is arbitrary. A trend doesn't neatly begin and end at the turn of a decade. And sometimes it takes a large trend to decisively take off.

More: How to do stock market research

What will be the next best stock sectors?

We are two years into a new decade and it has been a very interesting one so far. While we can't say so early in the decade what is going to be the best performing stock sector, we use this recent history to develop some general best practices.

Past price performance doesn't guarantee future results and tech conglomerates have had a record decade. So as investors we must ask ourselves, is it likely tech will repeat this feat or not? Keep in mind that we are moving into a different macro environment — one with inflation for the first time in years.

For long-term buy-and-hold investors, worrying about trends may just confuse. But for those with some free capital looking to make a new investment, choosing when the trend is in your favor certainly won't hurt and could help you discover the best stock sectors.