The Tycoon Report

Mastering Sector Rotation

Wednesday, December 3, 2008 | Bob De Dea

Last article I introduced you to sectors and how to begin to choose a sector to invest in. Today we will take a more in-depth look at the nature of sectors and what to pay attention to when tracking their performance. Pay attention, because what I am about to share is invaluable in your search for big game!

The first thing that is necessary to understand is that the market moves in sectors. What does that mean, Bob? Well, it means that sectors are like waves that ebb and flow, and the thing that makes them ebb and flow is money. Lots of money.

When large institutional investors want to purchase a stock or a group of stocks because they think that the sector these securities represent is going to fare well over time, they can’t do it all at once. They have to purchase stock in chunks over time. Likewise, if institutions decide to withdraw funds from a sector, the money has to flow out over a period of weeks or months.

This phenomenon is called sector rotation.

The ETF Master Trader is designed to identify which sectors are rotating into and out of favor and to let members know when the big money is moving in or out of a sector. Such information can be quite valuable to the ETF trader.

Relative strength, when aligned with sector rotation, is also an important part of hunting the correct sector in which to invest. Now I’m going to give you a gift. Here is a link to a comparison chart of the nine sectors of the market from stockcharts.com: http://stockcharts.com/charts/performance/SPSectors.html

This shows us how each sector compares to other sectors over a period of time of our choosing. If you click on the second button in from the left below the chart, it will turn the line graph into a bar graph, which is easier to look at.

Now here’s the gift part: Above the chart we see the list of the things the chart is graphing. Notice that the S&P 500, though not represented in the chart below, is grayed out. This is because this chart has the S&P 500 set as the baseline to which all the other ETFs are compared. Thus we have each sector’s relative strength compared to the (cap-weighted) S&P 500. (To see their absolute relative performance against each other, simply click on the S&P 500 square in the upper left corner.)

 

And as an extra bonus gift: See how the chart is showing the performance of these ETFs over the course of the last year (okay, okay – 364 days for those sticklers out there). We can, by moving this horizontal bar to the left, look at any 364-day period in the past (as far as it will go).

We can also, by clicking on the left double line of the horizontal bar, change the range from 364 days to any period from 2 days through the entire length shown between the arrows. (Note that the maximum time period will be how long the most recent security has been in existence.)

This is how we track the sectors we are hunting to determine the most profitable or, in the alternative, the weakest.

But there is a qualification to this sector education. I said that analysts have broken the market into nine broad sectors. The truth is that there are many more sub-sectors – for example, Sector Hunter tracks 44 different groups (and there are new ones being added all the time as Sector Hunter gets more and more honed to identify new groups). Here’s the current list:

Aerospace Airlines	Foods Bevgs Soaps	Precious Metals
Asia Pac	Forest Prds Paper	Protection Sfty Eqp
Autos & Parts	Gaming	Real Estate
Banks	Healthcare	Restaurants
Biomedics Genetics	Household Goods	Retailing
Buildings	Internet	Savings & Loans
Business Prd Svcs	Insurance	Semiconductors
Chemicals	Japan	Software
China	Latin America	Steel Iron
Computers	Leisure	Telecom
Drugs	Machinery Tools	Textiles Apparel
Electronics	Media	Transport Non Air
Energy Other	Metals Non Ferrous	Utility Electric
Europe	Oil & Coal	Utility Gas
Finance	Oil Service	Wall Street
	Pollution Control

 

The exciting news is that there are ETFs that track almost every one of these sectors. That puts a lot of different animals in the wild game corral, and makes it even easier to pinpoint certain sectors and track the institutional moves made in them.

It also levels the hunting plains for the little fellow, giving the individual investor the chance to invest in things that were once out of his reach, like commodities (for example, gold and agricultural goods).

Once we’ve focused our sights on a sector to invest in, the next thing to figure out is when and how. More on that next time.

Until then, make the game your own!






Bob De Dea
Guest Contributor
The Tycoon Report