As an independent financial advisor, I believe in building portfolios based on evidence, not emotion, and on current information rather than historic. While many investors remain stuck in the past, I seek out what lies ahead in the world of investing. Sector rotation strategies - a term you’ve likely heard before - is a sound investment technique that looks to the future for enhanced portfolio performance.
Having developed and managed a successful sector rotation strategy with five of the most favorable 11 sectors of the S&P 500, I am adamant that this type of investing doesn’t just make sense, it actually works.
What It Is
Before delving into the hows and whys, let’s first cover the what.
Sector rotation is a complex investment strategy that relies on the movement of money from one industry sector to another in an effort to stay ahead of the market. Its basis can be traced back to a theory from the National Bureau of Economic Research (NBER) that analyzed economic cycle data all the way back to 1854.
Sectors are comprised of companies grouped by similar business types. These can range from financial services to technology to natural resources. Depending on the year and market cycle, one sector may outperform another. At the time this article was written, for example, the energy sector was up 1.3%, while the healthcare sector was down -.05% so far this year.
This theory-turned-strategy relies heavily on the economic cycle and the behavior of certain sectors of business as they move through each: 1 - Full Recession; 2 - Early Recovery; 3 - Late Recovery; 4 - Early Recession.
By observing the telltale signs of each stage in the economic cycle, investors may predict which companies will be successful based on
How It Works
Now that we’ve covered the basics of sector investing we can talk about why it works.
First, it may be helpful to mention that for every successful sector investor, there are a handful of unsuccessful ones. This type of investment style relies on an individual’s ability to accurately and consistently determine when to rotate in and out of certain sectors. A task that can prove difficult for those who aren’t committed to doing their homework. Investors who are truly committed to sector rotation - and who understand its nuances - are worth seeking out.
Depending on your specific needs and objectives, there are several ways to implement sector investing into your overall financial plan:
- Portfolio Carve-Out: This first option reviews your overall portfolio and dedicates a portion to seek opportunities in a specific sector.
- Risk Management: Correlations between different sectors can be lower than those between general categories such as value vs. growth or large vs. small cap. A sector portfolio may be constructed in a way that can potentially reduce overall investment risk.
- Portfolio Completion: This strategy takes a big picture look at a portfolio and targets sectors that may currently be lacking. Adding a real estate sector, for example, can help round out a portfolio that was the previous void of that exposure.
A well-developed and implemented sector rotation strategy may enhance your portfolio’s overall performance. To learn more about this complex and highly valuable investment option - call our firm today.