Lessons from Choppy Sector Trading

Schwab Sector Views is our three- to six-month outlook for 11 stock sectors, which represent broad sectors of the economy. It is designed for investors looking for tactical ideas. We typically update our views every two weeks.

U.S. stocks have made limited headway over the past 20 months, with the S&P 500® index up around 4% from its January 2018 high.1 Most of the choppiness has been tied to trade-related news, although concerns about Fed policy and the flattening and at times inverted Treasury yield curve have come into play, as well.

One of the lessons that should come from observing what has been happening is that trying to trade around headlines is a potentially treacherous exercise. With so much daily noise, we continue to recommend a disciplined strategy around diversification and rebalancing.

Tied to that has been our sector strategy, which has been fairly “neutral” over the past year, having only one outperform rating (Health Care) and only one underperform rating (Communication Services). The remaining nine sectors have marketperform ratings.

Frankly, what has “worked” well over the past year or so has been factors over sectors. For those who are unfamiliar with factor investing, it’s an investment approach that focuses on stock characteristics, such as size, price momentum, value, volatility and other potential factors. Over the past year or so, stocks with low volatility and strong price momentum have consistently led the pack, while traditional and relative value factors have lagged the most.

However, as overall market volatility declined at the beginning of September, both value factors and more-cyclical sectors rebounded, along with higher-volatility stocks. This was an interesting reversal of a trend, but for now it was short-lived, lasting only a week or so. Last week saw a return to the factors that had dominated the year-to-date performance up to September. Any additional rotation would bear watching to see whether factors become as volatile as sectors, and/or whether a more-cyclical leadership trend portends a better economic outlook.