A Look at Sector Relationships

If you have been following my articles you know I approach trading with routine and logic. I study graphs to refine a fundamental and technical view of the world and the forces that move markets. Each time an event occurs that causes a ripple in stocks and futures I make a note of the reaction. For example, when news that a reliable vaccine would be available in the second week of December the following kneejerk reactions occurred. The 4 major indexes (ETFs…SPY, DIA, QQQ, IWM) rallied sharply, while treasuries (TLT) and precious metals (GLD, SLV) sold off. Metal and interest rate markets tend to move together because historically they are havens during conflict and chaos, even uncertainty.

At last there is hope for the future, thus the markets and sectors that were hit the worst during the pandemic recovered the most. The Russell 2K or small cap index (IWM) and energies (XLE, USO, OIH, XOP) outpaced many sectors. The tech heavy Nasdaq (QQQ) lagged because the odds increased for unrestricted gatherings and travel. Thus, there is hope that in the not-too-distant future people will surrender time on their computers for the outdoors.

Professional traders are aware of the relationships between sectors and the impact they have on each other when critical information is reported. The economy is recovering after a devastating first quarter. Normally, interest rate policy is the driving force in countries around the world. The historically low interest rate environment and accommodative central bank policy have reduced the impact the Fed has on markets. If interest rates are not raised or lowered, investors will seek arenas where there is profit potential. The foreign exchange market has not paid well because many countries have been printing money at an alarming rate. The U.S. dollar has dropped to levels we have not seen since fall 2018. This is the result of 7 trillion in stimulus from Treasury and Federal Reserve bank. Since currencies have lost value, bitcoin has gained in popularity and integrity.

Stocks will likely continue to rise, and certain sector ETFs should outperform. Green energy is the long-term goal but is not realistic any time soon. Energy, particularly petroleum companies and services, should appreciate when vaccines become available. There is abundant oil and gas supply, but there has been little demand. That trend should reverse because transportation stocks (IYT) should rise with distribution of the vaccine. Pharmaceutical and vaccine distributors (XPH) should see steady to higher prices in the first two quarters of 2021. Residential real estate is apt to do well due to the low interest rate (TLT) environment, though commercial real estate may not because many employees will continue work from home even after the virus is under control (XLRE). Biotech (XBI) should outperform because the virus will likely mutate as they are prone to do. Housing and building materials (XLB) should remain strong, and so should cyber security. Tech did very well throughout the pandemic, but may lag behind the Dow, S&P and Russell as Americans get back out and about.

John Seguin, Market Taker Mentoring

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