What’s The Best Stock Market Sector To Invest In?

One common question I often get from new investors is: what’s the best sector of the stock market to invest in?

And it’s a good question! The only tough part in answering this inquiry is that depending on when you ask, the answer can be completely different!

so what’s an investor to do?

Well for one, keep reading! Because in this detailed article I’m going to explain to you exactly how I analyze the different stock market sectors to decide which one is the best for investing.

That means…

By the end of this article you should have a strong handle on how to decide once and for all what sectors to invest in (… and just as importantly, which ones to avoid!)

And yes – I’m using the word investing, but this definitely applies to trading too. 

But before we get down into those dirty details, let’s quickly recap the reason why investing in the right sector is to so important!

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Why Picking The Right Market Sector Matters:

If you’re browsing the financial news, you won’t have to look far to see how the S&P 500 or Dow Jones industrial Average are performing. In fact…

These major market indexes basically act like headlines for the stock market. At a glance, they give you an idea of what’s going on. But…

The real nuances of the story are under the surface. And they can be DRAMATICALLY different from what you see in the business section of the newspaper!

Seriously.

While different sectors can hum along in the same direction, they can also diverge, like night and day.

But don’t take my word for it…

Remember the oil market in 2014-2015? Well even though the S&P-500 index held its own during that time, the same can’t be said for the energy sector.

Just look at this chart of XLE:

What’s The Best Stock Market Sector To Invest In XLE

And at the same time, the healthcare sector was acting very strong.

See for yourself:

What’s The Best Stock Market Sector To Invest In XLV

The point is: picking the right sector to invest in can make a MASSIVE difference in your results.

The proof is in the charts above. And if you ask me, it’s extremely compelling.

Think about it…

If you invested in energy stocks during this sector downturn, well, not only did you suffer painful drawdowns. But you also missed out on the upside in the stronger sectors like healthcare!

So this is why picking the right sector to invest in can make such a big difference.

so you might be wondering… how can you pick the best sector to invest in right now?

Well, the first thing you need to know about is top down trading.

Let me tell you why…

Why Top Down Trading Can Help You Find Outperforming Sectors and Stocks To Invest In:

Top down trading is a key part of my trading process. And it’s a great way to start analyzing the different market sectors so that you can pick the right one to invest in.

But you know what?

The great news for you as an investor is, top down analysis is actually really easy!

So to help you get started…

Let me (1) first introduce you to the concept, and then (2) I’ll show you the exact steps you can follow each week to help ensure you’re focused on the right sector opportunities.

Sound good?

Great, then let’s get to it!

What Is Top Down Trading Exactly?

If you’re new here, I encourage you to check out this highly detailed article on top down trading. It will help you learn the concept from start to finish in exceptional detail.

But just as a quick refresher:

Top down trading involves analyzing a potential stock by first looking at the technical strength of the underlying index, and then at the sectors that make up that index.

In other words: you start broad and then get narrower.

So if you were looking at a US tech stock, I’d look at these in order:

  • The global stock market index (easily done by using an ETF like ACWI)
  • The US stock market as a whole
  • The relative strength of the technology sector
  • And then finally the individual stock

Now the reason for this is because top-down trading is all about finding the major market trends and aligning yourself with them.

So…

Based on top-down analysis, you’d only invest in this sector if all the top down components were in your favour (meaning global, US and tech stocks are tending up!)

In that case, you’d have a top-down green light to go ahead and buy that tech stock!

“The thinking here is that you’re trying to buy with momentum at your back!”

Instead of paddling upstream against the current, you look for the prevailing trend and just align yourself with it. That’s what makes for much smoother (and less dangerous) sailing!

Now… you might see where I’m going with this… but let’s talk about how you can use this top-down approach to find the right stock market sector to invest in.

Using Sector ETFs for Top-Down Sector Analysis:

Given this quick recap of top down trading, it shouldn’t be a stretch as to how this approach can help you find the best sector.

But to avoid any confusion, let me quickly spell it out for you:

First, start by looking at the major market index ETF charts. I like to use SPY and ACWI to get a feel for the major market trends (both within the US and globally).

The reason for starting here is because if things are looking bearish for example, the wisest choice might be to invest in no sector at all!

By the way…

Just as an aside, I like to use weekly charts for this approach.

That’s because they can help you see the longer term trends over a 5-10 year period. It’s these major moves we’re looking for.

And just in case you’re wondering, you don’t need anything too fancy – stockcharts.com provides great charts you can use free.

Now at time of writing, you can see the weekly ACWI chart (via StockCharts.com) is strongly trending up:

What’s The Best Stock Market Sector To Invest In ACWI

So, with this bullish backdrop we have a green light to take a closer look at the underlying sectors to try and figure out what industries are really pushing the market higher.

From there, I just like to quickly cycle through the different sector chart XL ETFs. In case you aren’t familiar, here’s how they break down:

What’s The Best Stock Market Sector To Invest In sector etfs

Basically, I just quickly glance at all the above and look at which ones are near their highs. These are the sectors I want to be investing in!

Further, if a particular sector is doing much worse than the market, I will go ahead and completely avoid it. Make sense?

The idea here is to maximize your chance of success by buying what other people are buying!

I know it sounds simple. But that’s what drives capital gains in the stock market!

Okay…

To recap so far: we’ve discussed how to look at the different index charts to find those that are near their highs. It’s an easy and fast way to find the sectors that are acting strongest.

But it’s not the only way!

So let me show you another quick method to find the best sectors in a single glance!

Using FinViz Groups to Find The Strongest Sectors For Investment:

One free online investing tool I use all the time is FinViz.com. In fact…

One of my most popular blog articles of all time is about how to find breakout stock picks using FinViz.

But today, I want to show you another part of this powerful online research platform.

So to get started just head over to FinViz.com and then click on the Groups tab.

You’ll instantly see all of the sectors ranked by performance. And with one glance you can easily see how the different stock market sectors have performed over a given day, week, month or longer.

Now you can see this is pretty intuitive. But to make it even easier for you, I put together this short video explaining how I use this information to decide what sector to invest in.

VIDEO: How to Use FinViz Groups to Find The Best Sector To Invest In:

Pretty simple, right? Once you have the data, deciding which sector is right for you should be pretty straightforward.

Personally, I like to use this information to buy breakout stocks that are hitting new highs. But you could also use it to buy the dip or find value investing ideas – it all depends on your investment strategy!

Now before we wrap this up, there are a few more helpful tips to get you started on the right foot with sector investing.

Take a look!

More Tips to Help You Invest in The Right Sector :

By now, I bet you’re starting to see why finding the right sector can be a big part of your investment success.

So here are a couple more things to keep in mind when placing your bets on a stock market segment:

(1) Review Sector Performance Regularly

If you’re going to invest in specific market sectors, I think it makes sense to stay up to date with what’s happening.

After all, sector bets are a bit more concentrated than a broad index basket. So if things start getting worrisome, you’ll definitely want to be aware.

That’s why I like to review the weekly stock charts of the different sectors every weekend. Keeping a finger on the pulse like this can help you decide to sell if your investment takes a turn for the worse.

Along the same lines…

I think it can also pay to stay up to date with any sector-specific news headlines.

This is especially true if you’re investing in more heavily regulated sectors, like healthcare, where a change of policy can have BIG implications for investors.

(2) Understand Important Sector Correlations:

While each sector of the market is unique, there are some sectors that are more similar than you might think.

So here’s a short description of some frameworks to keep in mind when looking for what sector to invest in:

  • Risk on vs risk off: some sectors like technology make for riskier investments. On the other hand, utilities tend to be correlated with risk aversion – meaning that in a down market they may not fall as much as those sectors which are dependent on future growth. The relative risk of each sector is always something to keep in mind.
  • Yield proxies: Utilities, real estate and to some extent consumer staple stocks, tend to pay higher dividends than the other sectors. So it’s possible these defensive sectors could respond to changes in interest rates, or bond markets. Correlations aren’t perfect here, but it’s definitely something to keep in mind.
  • Cyclical vs non cyclical sectors: you’ll find that material, energy and industries stocks are more closely tied to the economic cycle. If you aren’t careful, this can lead to a repeating series of booms and busts. But by being aware of where we are in the cycle, you can improve your chances of participating in the upside while minimizing your downside risk.

For more on this important topic and how the different sectors of the market relate, check out Eddy Elfenbein’s stock market quadrant.

You might need to read it a few times to fully understand, but it provides an excellent model for thinking about sector investments.

(3) Be Aware or Diversification Drag and Concentration Risk:

I already mentioned this in passing, but it bears repeating. Because investing in specific sectors takes away a lot of the diversification benefits that come with broad market index funds.

Of course, diversification (sometimes called di-worse-ification) can be a double edged sword.

On one hand, diversification can be a real drag on performance. This is because you end up owning all the sectors, including the poor performers.

And yet on the other hand

If you pick the wrong sector (and don’t diversify,) you’re likely to take it on the chin in a mean way. Makes sense?

How you handle this will be up to you, but for starters, just being aware of the trade offs that come with concentrated sector investments can help you manage this risk.

So there you have it! I hope this article has helped you grasp some of the important nuances of sector-based investing.

But even though investing in the right sector is important, it’s only one piece of the puzzle. So…

If you want more info on how this all fits together then simply get your free copy of the 12-page PDF mini course. It shares MUCH more detail on how I sort and screen for stock and sector investment ideas.

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