Sector Rotation: Book Recommendations

Apr 1, 2007: 12:05 PM CST

Sector Rotation Strategy can help you view the larger picture on money flows in the market and possibilities of where strong sectors will emerge.

Regarding sector rotation, probably the best book I read on the issue, which helped me determine my strategy, is Peter Navarro’s “If it’s Raining in Brazil, Buy Starbucks.” Navarro introduces the concept of MacroPlays and contains the best logical description of Sector Rotation, Market Cycles, Economic Cycles/Reports and Interest Rate cycles.

I also recommend Peter Navarro’s “When the Market Moves, Will You Be Ready?” which is just a shortened, easier to understand book like his Raining in Brazil book.

As an aside, studying Intermarket Relationships can add to the larger picture. The aim is to identify relationships (and divergences) among the S&P 500, the bond market, currency market, and commodity market. This is more for the longer term investor, but even short term traders can benefit from studying overall market trends in markets other than the stock market. John Murphy’s Intermarket Analysis is probably the best book to begin.

There are three places I view sector rotation and intermarket analysis at a glance:

Sector Rotation Charts: Stock Charts Sector SPDRs
Intermarket Analysis: Stock Charts Intermarket Study
Prophet.net: Industry Group Analysis (also click on “Historical Trends”)

Position traders, as well as pure swing traders applying strategies that go beyond technical analysis can benefit most from these methods of analyzing the larger market.

Also, technical traders can benefit from assessing how far a trend is likely to continue, provided it has strength from a strong sector and the general market conditions.

Incorporating new ways of analysis can help if you are feeling stagnant in pure technical trading.

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Comments
  • Hi Joe - thanks for the comment.

    For discretionary trading, your goal is to put a preponderance of evidence in your favor for increased probabilities of success. If you are following a mechanical trading system using moving averages, then no further research is necessary and the results of your trading system will be based on your inputs and settings and position sizing/management.

    However, attempting to 'tweak' the system can produce better results, especially if you use filters and cycle/sector information.

    In other words, technical analysis (moving averages) does not work in isolation. There are underlying reasons why certain sectors and certain stocks trend, and it has to do with fundamental information that drives large funds to buy into stocks/sectors over an extended period time based on valuation and future value.

    That being said, yes, I do believe sector study and stock selection based on sectors that are outperforming can lead to better than chance results than if you simply analyzed moving averages and took isolated signals.

    One note of caution - though sector rotation has shown an edge, realize that sectors that have trended for a long period of time will eventually 'roll over' as another sector comes into favor, so it might be best to identify not only the top performing sector, but those that are showing recent strength that is increasing (rather than strength over many months that has been sustained) if you are looking for larger gains.

    Also realize that the goal is NOT to improve your winning percentages, BUT rather your risk/reward ratio. In trend-following, you may take 5 positions that are stopped out for a loss in a row (in trying to find the beginning of a new trend) but that 6th trade might result in an abnormally high reward to risk ratio (assume you lost $1,000 in the first 5 trades for a total of $5,000, but the 6th trade resulted in a $35,000 profit, leaving your net profit $30,000 over 6 trades and a win percentage of 17%).
  • Joe
    Corey,

    Currently, I use moving averages and some more easy trend following indicators scan for stocks and enter a trade. If I include the sector rotation into my scanning and limit additionally by stocks that are part of a sector in a strong up or down trend, would that significantly improve my winning percentages? Is it this way you include sector rotation into your strategy?

    Thanks, Joe
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