3 Sector ETFs to Watch This Quarter

04/05/2012 11:18 am EST

Focus: ETFs

Thomas Aspray

, Professional Trader & Analyst

Second-quarter sector rotation is likely give rise to new leaders and laggards, and investors can capitalize by waiting for favorable buying opportunities in three sector ETFs.

The Select Sector SPDR - Financial (XLF) was the worst-performing sector ETF in 2011, but was been the star performer in the first quarter of this year, up 21.5%. This historically would be a great yearly return, so many are likely skeptical about buying at current levels.

Two economically sensitive sector ETFs, the Select Sector SPDR - Materials (XLB) and Select Sector SPDR - Industrials (XLI), were also higher, but did not show the gains one might expect if the economy were really turning around.

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The materials in particular are sensitive to the outlook for the emerging markets. Despite the 10.4% quarterly gain, XLB still shows negative performance for the past five quarters after racking up strong gains in both 2009 and 2010. This is one sector that will bear close watching in this second quarter.

It would not be surprising to see new sectors emerge as leaders, and close monitoring of the relative performance, or RS analysis, can help identify those that are turning around.

The best performer in 2011, the Select Sector SPDR - Utilities (XLU), has been the weakest so far in 2012, as it was down 2.1%. However, the daily RS analysis on the utilities, as well as another defensive sector ETF, the Select Sector SPDR - Consumer Staples (XLP), is now trying to bottom.

The Select Sector SPDR - Health Care (XLV) started to outperform the S&P 500 in March and was up 8.4% in the first quarter.

NEXT: Financials Are Especially Vulnerable Now


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Chart Analysis: The Select Sector SPDR - Financial (XLF) has been bumping into trend line resistance, line a, for the past two weeks. Next resistance on the weekly chart is in the $16.50-$17 area.

  • For the past two weeks, XLF has been in a trading range. In February, a similar trading range was resolved to the upside
  • Daily RS analysis is still in a solid uptrend, indicating the financials continue to outperform the S&P 500
  • Weekly RS analysis (not shown) turned positive in early March
  • Daily on-balance volume (OBV) confirmed the recent price highs and is well above its daily uptrend, line d
  • There is initial support now in the $15.50 area with stronger support at $14.50-$15

The Select Sector SPDR - Technology (XLK) had a 18.5% gain in the first quarter, which is not surprising considering Apple (AAPL), which comprises 17.7% of the ETF’s holdings, was up 54% for the quarter.

  • The 2007 high at $28.21 was exceeded in March when XLK hit a new high this week of $30.62
  • Daily relative performance analysis appears to be losing some upside momentum, as it is quite close to its uptrend, line f
  • Daily OBV peaked in March and has not confirmed the recent price highs. The negative divergence, line g, is consistent with a further correction
  • On a close below the support at $29.70, XLK could drop back to next support in the $28-$28.50 area
  • The 38.2% Fibonacci retracement support, as calculated from the November low of $24.01, is at $28.10 with the 50% support level at $27.30

NEXT: 2 Sector ETFs with Seasonality on Their Side


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The Select Sector SPDR - Energy (XLE) has been much weaker than expected over the past few weeks, especially with the strongly positive seasonal bias. It has now reached more important converging support (lines a and b) in the $70 area.

  • If the $70 level is broken, the next band of good support is in the $68-$68.50 area, which also corresponds to the major 38.2% retracement support from the October lows
  • Daily relative performance broke through support, line c, in March
  • Daily OBV has stayed relatively flat on the recent decline, and the weekly OBV (not shown) is now testing its uptrend
  • There is initial resistance now at $72.50 and then in the $74-$75 area

The Select Sector SPDR - Health Care (XLV) tested long-term support, line e, in mid-March before surging again to the upside and hitting $38 this week. This exceeded the 2007 high of $37.89.

  • This is a strong seasonal period for health care, and the uncertain future of the Obama health care plan has also likely been a positive factor
  • The RS line broke its downtrend, line g, in late March, and is now well above its rising weighted moving average (WMA)
  • Volume in XLV has picked up within the past two weeks, as the daily OBV is confirming the price action and is well above support at line h
  • Weekly OBV (not shown) looks even stronger
  • There is first good support in the $36-$36.50 area with the major 38.2% support at $35

What It Means: After such a strong first quarter, some sector rotation is quite likely in the second quarter. In a review of the quarterly performance from 2011, this table shows that the Select Sector SPDR - Energy (XLE) was up 16.5% in the first quarter, but down 5.5% in the second.

New concerns about the European debt crisis pressured stocks on Wednesday and early Thursday. A sharply lower close on Thursday would increase the chances of a deeper correction over the next few weeks. Financial stocks are likely to be especially vulnerable, but should present good buying opportunities at lower levels.

The sectors that look most interesting for the second quarter are health care, utilities, and consumer staples.

How to Profit: I have no new recommendations in the sector ETFs for now, but expect to see good buying opportunities in the coming weeks.

Portfolio Update

For the Select Sector SPDR - Technology (XLK), previous buyers were 50% long at $23.66 and 50% long at $23.12. Half the position was sold at $28.06 or better. There was a typo in the most recent portfolio summary, and the proper stop level for the remaining position is at $27.78.

As recommended in mid-August, buyers should be 50% long the Select Sector SPDR - Consumer Staples (XLP) at $28.98 with a stop at $32.58.

Previous buyers should also be 50% long the Select Sector SPDR - Energy (XLE) at $74.34 and 50% long at $73.62 with a stop at $69.88.

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