Sector Rotation Points To A More Defensive Stance

The recent drop in the market averages prompted me to take a look at a few sectors that make up the indexes.

I wanted to see if there was any cyclical rotation going on, that may give a clue as to the possibility of a market correction. I recently wrote about the XLP consumer durables sector giving a hint of market weakness, so I wanted to include other sectors.

Looking at the chart below the line comparison of several defensive sectors -- or, in this case, ETFs to the SPY ETF -- show a strong move from the February lows to the high in the market. This clearly shows a rotation to defensive stocks. This is generally not a bullish situation.

The ETFs I used were XLU (utilites in yellow), XLP (consumer staples in blue) and XOP (energy in white).

Money flowing into these areas had to come from somewhere, so let see if the offensive or bullish sectors give a clue. From the chart below, I compared several offensive type ETFs showing a flattening top formation as money slowly flowed out. You can also see the curling over at the end of the chart, as these sectors start to head down.

Here I used the ETFs XLK ( Tech in red), XLF (Financials in teal) and XLB (Materials in grey).

Clearly the high fliers and stocks that give leadership to the market are slowing down or rolling over. Money may also flow into bonds and metals with the recent bounce in GLD and SLV. The shift in rotation here suggests the possibility of a slowing market or correction in the future. All in all, this should give the investor or trader a chance to pause and rethink some strategies going into the spring.

As always, these are suggestions for more research and study and not trade recommendations. Risk is always a factor in these setups, so size your trades to your own personal risk tolerance.

(Chart courtesy of TC2000)