Positioning For A Strong 2021 And Better Times Ahead

SPY chart

Latest Sector Rankings:

Relative sector rankings are based on our proprietary SectorCast model, which builds a composite profile of each of nearly 500 equity ETFs based on bottom-up aggregate scoring of the constituent stocks. The Outlook Score employs a forward-looking, fundamentals-based multifactor algorithm considering forward valuation, historical and projected earnings growth, the dynamics of Wall Street analysts’ consensus earnings estimates and recent revisions (up or down), quality, and sustainability of reported earnings, and various return ratios. It helps us predict relative performance over the next 2-6 months.

In addition, SectorCast computes a Bull Score and Bear Score for each ETF based on recent price behavior of the constituent stocks on, particularly strong and weak market days. A high Bull score indicates that stocks within the ETF recently have tended toward relative outperformance when the market is strong, while a high Bear score indicates that stocks within the ETF have tended to hold up relatively well (i.e., safe havens) when the market is weak.

Outlook score is forward-looking while Bull and Bear are backward-looking. As a group, these three scores can be helpful for positioning a portfolio for a given set of anticipated market conditions. Of course, each ETF holds a unique portfolio of stocks and position weights, so the sectors represented will score differently depending upon which set of ETFs is used. We use the iShares that represent the ten major U.S. business sectors: Financial (IYF), Technology (IYW), Industrial (IYJ), Healthcare (IYH), Consumer Goods (IYK), Consumer Services (IYC), Energy (IYE), Basic Materials (IYM), Telecommunications (IYZ), and Utilities (IDU). Whereas the Select Sector SPDRs only contain stocks from the S&P 500 large-cap index, I prefer the iShares for their larger universe and broader diversity.

SectorCast ETF rankings

Here are some of my observations on this week’s scores:

1.  Financial remains in the top spot with an Outlook score of 73, which is somewhat low for the top scorer. The sector displays strong sell-side analyst sentiment (positive net revisions to EPS estimates), good return ratios, a reasonable forward P/E of 18.1x, an attractive forward PEG (forward P/E divided by projected EPS growth rate) of 1.96, and strong insider sentiment (open market buying). Telecom takes the second spot with an Outlook score of 71, given its low forward P/E of 13.4x and solid return ratios. Rounding out the top five are Technology, Healthcare, and Consumer Services. Notably, earnings estimates continue to be revised upwards across all sectors.

2.  The bottom three sectors are Energy with an Outlook score of 3, Industrial at 35, and Basic Materials at 39. Energy has long been the cellar-dweller given its poor near-term growth prospects and high forward P/E and PEG ratios. Industrial and Materials have fallen primarily due to their strong price performance during the sustained value/cyclicals rotation.

3.  Looking at the Bull scores, Technology has cooled off its torrid pace, so now Energy displays the top score of 64, followed by Basic Materials at 58 and Financial and Industrial tied at 55, as stocks within these sectors have displayed relative strength on strong market days. Utilities scores the lowest at 43. The top-bottom spread of 21 points reflects low sector correlations on strong market days. It is desirable in a healthy market to see low correlations reflected in a top-bottom spread of at least 20 points, which indicates that investors have clear preferences in the market segments and stocks they want to hold.

4.  Looking at the Bear scores, defensive sector Telecom scores the highest at 54, followed by Consumer Goods (Staples/Noncyclical) at 52, as stocks within these sectors have been the preferred safe havens lately on weak market days. Technology displays the lowest score of 42, as investors have fled during recent market weakness. The top-bottom spread is only 12 points, which reflects high sector correlations on weak market days. Ideally, certain sectors will hold up relatively well while others are selling off (rather than broad risk-off behavior), so it is desirable in a healthy market to see low correlations reflected in a top-bottom spread of at least 20 points.

5.  Financial displays the best all-around combination of Outlook/Bull/Bear scores, while Energy is by far the worst. Looking at just the Bull/Bear combination, Basic Materials and Energy are the best, followed by Financial and Industrial, indicating superior relative performance (on average) in extreme market conditions (whether bullish or bearish). All four represent economically sensitive value/cyclicals market segments. Technology again scores the worst, which further illustrates the value/cyclicals rotation.

6.  This week’s fundamentals-based Outlook rankings retain a moderately bullish bias, given that cyclical sector Financial and Technology are at or near the top while defensive sectors Utilities and Consumer Goods (Staples/Noncyclicals) are in the lower tier. The near-term outlook in our fundamentals-based model continues to gain visibility. Keep in mind, the Outlook Rank does not include timing, momentum, or relative strength factors, but rather reflects the consensus fundamental expectations at a given point in time for individual stocks, aggregated by sector.

ETF Trading Ideas:

Our Sector Rotation model, which appropriately weights Outlook, Bull, and Bear scores in accordance with the overall market’s prevailing trend (bullish, neutral, or defensive), moved to a bullish bias last month and suggests holding Financial (IYF), Energy (IYE), and Basic Materials (IYM), in that order. (Note: In this model, we consider the bias to be bullish from a rules-based trend-following standpoint when SPY is above both its 50-day and 200-day simple moving averages.)

If you prefer a neutral bias, the Sector Rotation model suggests holding Financial, Telecom, and Technology, in that order. On the other hand, if you are more comfortable with a defensive stance on the market, the model suggests holding Telecom, Healthcare, and Consumer Goods (Staples/Noncylicals), in that order.

An assortment of other interesting ETFs that are scoring well in our latest rankings include First Trust Dorsey Wright Momentum & Value (DVLU), Invesco Dynamic Pharmaceuticals (PJP), VictoryShares US Multi-Factor Minimum Volatility (VSMV), iShares US Home Construction (ITB), iShares US Regional Banks (IAT), SPDR S&P Homebuilders (XHB), First Trust Morningstar Dividend Leaders (FDL), Innovator IBD 50 (FFTY), First Trust NASDAQ ABA Community Bank (QABA), First Trust NASDAQ Retail (FTXD), Invesco Dynamic Building & Construction (PKB), Davis Select Financial (DFNL), iShares US Broker-Dealers & Securities Exchanges (IAI), iShares Factors US Value Style (STLV), VanEck Vectors BDC Income (BIZD), Invesco S&P 500 Equal Weight Financials (RYF), and Pacer US Cash Cows 100 (COWZ).

As always, I welcome your thoughts on this article! Please email me anytime. Any and all feedback is appreciated!


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Disclosure: At the time of this writing, among the securities mentioned, the author held long positions in SPY, EEM, ZM, SQ, TTD, BEAM, QDEL, gold, bitcoin, and ether.

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