Stock Market Sectors: are you a loser or one of the cool kids?

[Zaxon]

In the last year, if you simply invested in gold stocks, your return would have been 63.9%.



On the other hand, if you chose the nice, safe energy sector, you would have lost a whopping %15.



Clearly there's a massive advantage in choosing the right market sectors, and nothing but regret if you choose the wrong one. So do you factor sectors into your decision making process when selecting stocks?

This thread was requested by @aus_trader , who has a lot of good questions on this topic which I'll list in the next post, and I encourage you to answer them.

 

[Zaxon]

Certain sectors run hotter than others at any given time in the markets e.g. now it might be Gold stocks, a little while back it was biotech's and before that it was banks and financial stocks including BNPL type fintech stocks. We don't have to know the exact reason, it may be due to funds management rotating from sector to sector or some economic reason such as flight to safety or yield but we know that this is undeniably a characteristic of the market.

The first question is to whether you can directly tap into the sector as a whole. I know there are index funds which specialize in some of these sectors, but in the Australian market, my feeling is that you can't necessarily pick a sector at random and have an index fund ready for that.

As to why there are hot sectors and unloved sectors, in my mind it comes down to momentum. As any good momentum investor will tell you, half of it is based on genuine growth opportunities in that area, and the other half is based on FOMO (Fear Of Missing Out). Success begats success. I think gold has done well of late because people feel the market is overheated (rightly or wrongly), and so have started moving towards defensive stocks. By contrast, consumer discretionary is down 2.7% for the year. I see the catalyst for this as the stagnation in the growth of Australian wages. Some people have real fears we'll end up more like America, where a minimum wage job can take you below the poverty line.

What will be good to find and discuss is how do the experienced/professional investors/traders find the hot stocks in the hot sectors ? Is there a recipe/scan to use or is it through doing a lot of stock research like I do and realising that certain stocks are getting attention e.g. it could even be very specific niche segment of the market e.g. Cannabis stocks within Biotech space or Lithium stocks within Mining space etc.

You've really got two choice here. You either predict what the new hot sector will be, and that relies often on seeing what the media is obsessed with. Or, you look at the recent performance of a sector and make a bet that it will continue its trajectory.

Personally, I'm a bottom up stock picker. I completely ignore sectors when selecting stocks. However, I'm an "inadvertent" sector picker. Very often the stocks I buy will end up being concentrated in a particular sector, and I’m OK with that. Of late, I’ve been buying a lot of gold stocks. A while back, it was iron ore, biotech, and fintech.

Finally why is this important ? Well let's not kid ourselves, we are all here to make a bit of dough right. Few members may be far too well off and only visit to discuss politics and health . As for the rest of us, we want to know which sectors are moving right?

Of course!

If we have ten stocks from different sectors that have the same setups based on TA/FA which ones would you choose? I know from experience if you pick the few in the cold sectors they'll go sideways or even lose you money but if picked from the leading (hot) sectors they have a much better chance of galloping along to higher ground. Without having the insider knowledge of where the fund managers and institutions are targeting, how do we target the winning sectors ?

Although I don’t choose based on sectors, I have let it colour my thinking a bit. A few months back when the Chinese were blocking our iron ore shipments at their ports, iron ore stocks were still doing pretty well. I used that as part of my thinking. Recently, coal seems to be the unloved industry, so even if coal stocks were doing well, I feel they’re potentially a riskier area.

Let's get the discussion started on another successful Zaxon thread.

Ya for successful Zaxon threads! Lol.

 

[aus_trader]

Thank you for starting this thread Zaxon, great example of what I was talking about in your other thread, in terms of the XGD vs XEJ charts and their performance at the start.

You have made some very good points in answering some of the questions raised. I think what I am interested in is picking up those hot sectors and smaller sub-trends within sectors early. Once the media is all over them, I think the story has run quite a lot of the distance and there might not be a lot of gains left. For example there was media articles in all areas of financial reporting in the BNPL area of Financial Tech stocks once the early movers such as APT and Z1P has already run for many months. There were still gains to be had as the stories went mainstream and there was buying by the masses but those early gains were missed by that stage.

 

[Zaxon]

I think what I am interested in is picking up those hot sectors and smaller sub-trends within sectors early. Once the media is all over them, I think the story has run quite a lot of the distance and there might not be a lot of gains left.

The normal way we detect trends early, is by looking for breakouts. For instance, if the graph crosses up through the 'n' day moving average, or if the graph crosses up through a previously established upper resistance line. You could apply the same logic to the sector graphs.

 

[aus_trader]

The normal way we detect trends early, is by looking for breakouts. For instance, if the graph crosses up through the 'n' day moving average, or if the graph crosses up through a previously established upper resistance line. You could apply the same logic to the sector graphs.

Yes, definitely will be paying more attention to what the sector is doing from now on before rushing into buying a stock especially if there is a basket of them available to select from.

Do you use any other forms of elimination processes to narrow down your selections Zax? For example if you had 10 random stocks that come up as suitable candidates to buy, let's say based on breakout type scenario as you mentioned. Then how do you narrow down the selection if you don't want to buy them all or if there is sufficient funds for purchasing only a couple ?

 

[Zaxon]

Do you use any other forms of elimination processes to narrow down your selections Zax? For example if you had 10 random stocks that come up as suitable candidates to buy, let's say based on breakout type scenario as you mentioned.

I look for 'consistency' is the graph - so purely a discretionary factor. If the graph is U shaped: fallen from a great height a few months ago, or the graph looks like the stock is on a pogo stick, I tend to avoid it, since I feel I'm most likely to get whipsawed out should I hold it.

 

[aus_trader]

I look for 'consistency' is the graph - so purely a discretionary factor. If the graph is U shaped: fallen from a great height a few months ago, or the graph looks like the stock is on a pogo stick, I tend to avoid it, since I feel I'm most likely to get whipsawed out should I hold it.

Yes, there is absolutely no peace of mind being in an erratic, illiquid, gappy stock that jumps all over the place and the bid-ask spread is wider than Perth to Sydney. I've been in a few of those and getting out is a nightmare and losses accelerate.

 

[Zaxon]

Yes, there is absolutely no peace of mind being in an erratic, illiquid, gappy stock that jumps all over the place and the bid-ask spread is wider than Perth to Sydney. I've been in a few of those and getting out is a nightmare and losses accelerate.

lol. Very true. I've had my fair share of them too.

 

[basilio]

I think what you need to look for in the "next big thing" is a well sorted scam master.

Your looking for Principals who have a great track record in taking empty shells with good tax loses, and then creating an exciting new story hopefully based on the next big thing. Historically these have been graphite, lithium, rare earths, you beaut IT technology, wondrous new inventions whatever.

You also want to make sure the share broker/promoter shares the values of the Principals and constructs some really spectacular but believable future scenarios .

And of course they have to be sincere. They have to truly look as if they believe what they are saying because without the Power Of Sincerity it is unlikely they will find enough true believers to punt the shares high enough and quick enough to make a buck .

Of course you have to get in and out and take your cut. There is no way on earth any of these companies will ever make a real profit from a serious business.

Cheers.!

 

[aus_trader]

One thing I have come to realise though is that there is a lot of small cap stocks with the "next big thing" written all over it. In fact some companies are created for that purpose either via an IPO or back listing using an existing empty shell.

However very small % of these actually have a sustained share price increase over a period of time or an up-trend. It's not easy to time these as a lot of signals turn out to be false and shares dip down as soon as bought.

So we are trying to improve the odds of buying at the right time and perhaps staying out at other times even though there is a signal. What we want to prove or confirm is that a buy signal has more chance of ending in profit if there is a bullish bias in the sector that the stock exists in.

 

[Zaxon]

One thing I have come to realise though is that there is a lot of small cap stocks with the "next big thing" written all over it.
So we are trying to improve the odds of buying at the right time and perhaps staying out at other times even though there is a signal. What we want to prove or confirm is that a buy signal has more chance of ending in profit if there is a bullish bias in the sector that the stock exists in.

Fintech was an example last financial year. Afterpay, Zip pay etc, grew amazingly. Then turned and ended their growth around the same time. So sector specific momentum is very real, and should improve the odds. As long as you're monitoring your exits, but then that applies to all stocks.

 

[aus_trader]

I too believe what you said, and couldn't have said it better myself:

So sector specific momentum is very real, and should improve the odds.

This is why I wanted to look into this a bit more and find out what others think. I am curious as to whether some of the system type traders pay attention to this area or if they have a system in place that incorporates the sector bias. I know there is a lot of system based traders on the ASF like peter2, captain black, tech/a, Skate, willoneau, Boggo, investtrader, but I've just mentioned a few who regularly post info/charts of their system based trades and see what they can contribute to the discussion.