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Stock Sectors – Choosing Among Leading Industries

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Introduction

 

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When you think of industry sectors, what comes to mind? You may be thinking about the heavy hitters that most wall street gurus invest in, such as financials, technology, or even real estate (Real Estate Investment Trusts that is, or REITs) – but you may also think of the steady and reliable stocks such as health care and utilities. At the end of each financial quarter, you tend to notice that some sectors tend to outshine the competition, as this is evident based on their EPS (Earnings Per Share) calculations – while others cracked under the pressure, or even took a turn for the worse.

So how does an investor determine the stock sectors that is right for their portfolio? In this lesson, we will be discussing the importance of accessing a select group of sectors to include in your own portfolio – along with the opportunity costs that comes with sector investing.

 

But before we begin, we would like you to read and agree to the Terms & Conditions of this post before you proceed any further.

Disclaimer: Invest In Wall Street is in no way financially or legally responsible for any investing decisions made by any of our readers and are, in turn, acting on their own free will. The information in this article is purely educational and should not be abused or misconstrued in any way, shape, or form.

 

Opportunities and Risks in Sector Investing

 

 

What is a sector? A sector is a business grouping within a similar area of the economy.

Today’s most common sectors include financial, technology, health care, energy, and utilities to name a few.

For example, the financial sector includes money centered banks, consumer finance companies, life and health insurance companies, savings and loans, investment banking, and brokerage firms.

Sectors are concentrated, which means they have the potential to achieve greater levels of return at greater risk versus the broad market. Because they focus on a particular sector without the need to take all the risks involved in
focusing on a single stock, they can act as an alternative to a single stock and improve portfolio diversification.

 

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Exposure to such concentrated investments however, may increase the overall risk of a portfolio.

Take the tech bubble for example. Investors who thought this phenomenon was a sure thing and loaded up on related investments more than likely lost a considerable amount of money when the bubble burst.

 

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Sector investing is not for the casual or risk averse investor, because of the potential to be exposed to substantially greater losses than those experienced by the overall market.

Keep in mind that sector investments are narrowly focused investments that typically exhibit higher volatility than the market in general. Sector investments will fluctuate with current market conditions, and may be worth more or
less than the original cost upon liquidation.

Understanding risk is an essential step for making your investment choices.

You can compare sector performance and risks against US markets and other sectors.

From 1992 to 2010, energy, real estate, and technology provided the highest returns. Industrials and basic materials
also outperformed US stocks.

 

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However, each group provided greater returns – with higher risk exposure. In fact, the technology sector had the highest risk level of the group, followed by the energy sector.

Consumer defensive experienced better than market returns over this time period, with a lower risk than the US markets as a whole.

Utilities had lower risk than these markets, but also outperformed the markets by returning much less. And health care nearly matched the market in both return and risk.

But consumer cyclical, financial services, and communication services all underperformed with a higher risk than the US market.

Although past performance cannot predict future results, looking at past returns will provide a good idea about how an investment has behaved in different market conditions in the past, and how it compares to other relevant performance measures.

 

 

Quick Recap

In Review….

Stock Sectors

  • A sector is a business grouping within a similar area of the economy
  • Today’s most common sectors include financial, technology, health care, energy, and utilities to name a few
  • For example, the financial sector includes money centered banks, consumer finance companies, life and health insurance companies, savings and loans, investment banking, and brokerage firms
  • Sectors are concentrated, which means they have the potential to achieve greater levels of return at greater risk versus the broad market. Because they focus on a particular sector without the need to take all the risks involved in focusing on a single stock, they can act as an alternative to a single stock and improve portfolio diversification
  • Exposure to such concentrated investments however, may increase the overall risk of a portfolio
  • Sector investing is not for the casual or risk averse investor, because of the potential to be exposed to substantially greater losses than those experienced by the overall market
  • Keep in mind that sector investments are narrowly focused investments that typically exhibit higher volatility than the market in general. Sector investments will fluctuate with current market conditions, and may be worth more or less than the original cost upon liquidation
  • Although past performance cannot predict future results, looking at past returns will provide a good idea about how an investment has behaved in different market conditions in the past, and how it compares to other relevant performance measures

 

 

Sector Investing is a common investing strategy as a way to diversify and allocate your capital across a span of stocks. The best aspects of sector investing include the diversification that all portfolios need in order to reduce risk, and provides the offer of a safer investment, rather than purchasing a single stock, which is slightly riskier if the market is constantly experiencing ups and downs. Although it is less risky than purchasing a single stock itself, it is still riskier than the overall market – since you are investing in a concentrated group of stocks rather than the entire market as a whole.

For example, If you choose to invest in the financial investor, it could provide the benefit of safer and greater returns rather than investing in a single financial oriented stock, like Goldman Sachs. But if your entire portfolio consist mainly of financials and not much else – you could be in for a rude awakening from a developing economic recession – which will lower interest rates, causing the sector to take a dive.

As with everything, diversification is key – and in moderation as well.

I hope you have enjoyed this post and found the information to be quite useful. If you have any questions or concerns, please feel free to leave them down in the comment thread below and make sure to like and share this post.

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