January 7, 2016 at 12:56 pm #395Anonymous
The “smart money” long ago discovered the power of sector rotation trading strategies to profit in any market environment regardless of whether the general indexes were going up, down or sideways.
Interestingly, and perhaps not surprisingly, sector rotation strategies have not been widely embraced by most retail investors, and even recently, with the advent of an almost unlimited number of Exchange Traded Funds, sector rotation is still not a widely employed trading strategy.
And this is a shame since sector rotation offers investors the opportunity to profit more consistently and enjoy greater returns than could otherwise be attained by just “buying the market.”
Why Sector Rotation Works:
The United States economy goes through clearly defined phases of peaks and valleys that we call periods of expansion or recession. Since the end of World War II in 1945, the U.S. economy has transitioned through 11 recessions and 10 expansions and is currently in number 11. Expansion periods have averaged approximately five years and have been as short as 12 months to as long as 10 years between March, 1991, and March, 2001.
And leading sector rotation student and scholar Sam Stovall, chief investment strategist at Standard and Poor’s and author of BusinessWeek column, “Sector Watch,” says, “Breaking expansions into early, middle and late phases of equal durations, and recessions into early and late periods of similar lengths, and then analyzing the frequency of the market outperforming the industries in the S&P 500 during these periods, a pattern of sector rotation is apparent….”
And when you apply the theory of market cycles with sector rotation, you get a clear picture of what stage the economy is in and what sectors typically offer the best chance for reward with the minimum amount of risk.
The U.S. economy moves through four well defined stages and in each stage it’s possible to identify which sectors of the economy, and so the stock market will perform the best.
Between 1995 and 2005, the annual range between the best and worst performing sectors could be more than 100% in any given year. For instance, in 2000, Utilities earned 50.5% while Internet lost -74.5% and in 2004 Energy Services gained 34.5% while Semiconductors lost -21.6%.
In any given year, being in the right sector vs. the wrong sector made double digit percentage differences in the profit/loss outcome. Therefore, it becomes immediately obvious that a sector rotation strategy that puts you in high performing sectors will have considerably better outcomes than one that focuses on the worst sectors or even across an average of all sectors.
As market leadership rotates from one sector to another, a good sector rotation trading system can place us in those sectors that are market leaders and so allow us to profit no matter what conditions the general markets find themselves in.
During bull market years, one can make more money than the averages by focusing on the strongest sectors, but surprisingly, one can even profit in bear market years because as we say, “there’s always a bull market somewhere.”
Even during the dark years of the 2000-2002 bear market when most investors took double digit losses approaching or even exceeding 50%, investors who focused on Utilities, Real Estate and Precious Metals enjoyed double digit returns.
Here are examples of specific results and why sector rotation can super charge your portfolio.
Home Construction: +70.3%
Oil: + 64.3%
S&P 500 -10.1%
Tracking Index: +32.0%
S&P 500: -23.2%
South Korea: +44.6%
Home Construction: +37.2%
S&P 500: -13%
And this is why “the smart money” has gravitated towards sector rotation. Because there isn’t just “one market” but rather a wide variety of “sub-markets” some of which will always be in significant up trends.
Sector rotation trading strategies allow the investor to identify and profit from sectors that are outperforming the general market and so are a valuable addition to any investor’s portfolio.
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