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Sector rotation

Sector rotation

Sector rotation is an investment strategy where you shift your portfolio to take advantage of changing market conditions. Here you will learn how to implement this strategy in four steps.

🔍 Understanding what sector rotation is

Sector rotation is a tactic used by hedge funds and other sophisticated investors to maximize their returns. It involves periodically rebalancing the portfolio to buy stocks in sectors that are expected to do well and sell stocks in sectors that are expected to do poorly. You could compare it to changing from summer to winter tires: You adjust your equipment to the prevailing conditions.

📊 Learn how to recognize market cycles

The key to sector rotation is understanding market cycles. These cycles consist of four phases: Expansion, Peak, Contraction, and Trough. In the Expansion phase, the economy and corporate profits grow, leading to rising stock prices. In the peak, profits stagnate and stock prices begin to fall. In the Contraction phase, the economy and corporate profits contract, leading to further declines in stock prices. Finally, in the Trough phase, recovery begins and the cycle starts again.

💹 Identify the best sectors for each market phase.

Each phase of the market cycle favors certain sectors. For example, in the expansion phase, technology and consumer goods sectors are often the winners, while in the contraction phase, utilities and healthcare often do better. So you need to learn which sectors perform best in which phase to make your sector rotation effective.

🔄 Perform sector rotation

Once you have identified the market phase and the best sectors for it, it's time to do your sector rotation. This means that you buy stocks from the preferred sectors and sell stocks from the less preferred sectors. But be careful: sector rotation is not an exact science. It's always possible that you'll get it wrong and stock prices won't react the way you expect. Therefore, it's important to review your portfolio regularly and make adjustments as necessary.

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