Know Your Sector Components!

JC Parets
January 29, 2016

This week I was driving home and flipping through radio stations on Satellite and I stopped to listen in on what was happening on the financial tv networks. I just learned this week that financial tv networks air their tv stuff on the radio too. Fun fact. Anyway, the topic was about Amazon earnings and how bad tech companies are doing. Not sure what Amazon has to do with technology? This was a stock market show. Amazon is a Consumer Discretionary stock. It's actually the largest component of the Consumer Discretionary sector and is not even listed in the Technology Sector Index. Still, on and on they went about Amazon being a technology company. It made no sense.

Guys, I get it. We can sit here all day talking about what great technology Amazon has, and AWS is so great, etc etc. Yes, I know. But we're talking about the stock market here, are we not?

Is or is Amazon not the biggest component of the Consumer Discretionary Sector? Is Amazon even listed in the Technology Sector Index? As far as the stock market is concerned, which is what matters here (by the way), it is 100% a Consumer Discretionary stock. It is the most important one in fact. Meanwhile, Amazon is 0% a Technology stock. Zero percent. Not even 1%. Zero.

And yes, I know it's in the Nasdaq 100, a tech-heavy index. But it's tech-"heavy", not tech. Kraft is in the Nasdaq100. So is Whole Foods. Are they tech companies?

The reason I bring this up is because I do a lot of work when it comes to U.S. sectors and sector rotation. It's important to know what is driving these sectors and which companies are dragging them down or leading them higher. Exxon Mobil is not a Financial. Bank of America is not a Utility company. Amazon is not a Tech company.

When I go sector by sector deciding who is a leader on both an absolute and a relative basis, let's say, and I want to take part in the future gains in that space, I need to decide what the best vehicle might be to express that thesis. In some cases it might be to just buy the sector ETF and call it a day. In other instances, one of the stronger components, or a group of components might offer the best risk/reward. It really depends and it's on a case by case basis. Same thing on the short side. If I think a sector is going to be weak, I need to decide how to execute: Short the sector, or pick one or a few of the names in the space.

Imagine if I wanted to buy Consumer Discretionaries but left out Amazon, it's most important and largest component? Imagine if I wanted to short Technology and decided to do that through Amazon? One has nothing to do with the other. Look at a chart of technology, $XLK or otherwise, what you're seeing there has nothing to do with Amazon. What is driving that sector and equivalent sector ETFs is not $AMZN. In fact, Amazon could quadruple in price and it would not impact the technology sector. Why? Because it's not a technology stock.

S&P, Dow Jones, etc all provide fact sheets for their sectors including their components. They are free for everyone to access and a great tool for finding trade ideas. Again, if you like a sector, you can own it as a group or pick one or a few of the components. It's the same on the short side. But without knowing what makes up each sector, you're heading in the wrong direction.

Know your sector components. It's important.

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Tags: $SPY $AMZN $XLK $XLY

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