There has been a divergence in sector performance in 2019, as both the Nasdaq 100 and the S&P 500 index have hit all-time highs. The best performing sector in 2019 has been the technology space which is up 21% year to date. The worst performing sector is energy, which is down 10% year to date. If you wanted to take advantage of this continued divergence in specific sectors, the best way to initiate this type of risk is through exchange traded funds (ETFs).
What are ETFs
An exchange traded fund (ETF) is a fund that trades like a stock. The price will fluctuate through the day and is highly liquid. There are ETFs that track the underlying shares of many different indices, commodities, and currencies. To track an index, the ETF holds the stocks in the index and traders are mandated to buy and sell those stocks to make sure the ETF perfectly tracks the underlying index. Some of the most liquid ETFS track major indices such as the Nasdaq, the S&P 500 and the Dow Industrial Average. What is ETFs that track commodities? These are ETFs that hold futures or physical commodities in the trust that are used to track the underlying commodities. For example, the USO ETF that tracks United States Oil holds oil futures that trade on the Chicago Mercantile Exchange. Some commodity ETFs such as the GLD gold ETF will hold physical gold bullion.
What Are Sector ETFs?
A sector ETF is an ETF that follows a specific group of stocks that participate in certain businesses. For example, companies that sell semiconductor equipment or software would be categorized as technology. Companies that produce or refine oil would be categorized as energy. Like other indices, such as the Nasdaq 100 or the S&P 500 index, the sector indices hold the stocks in those sectors to allow investors to speculate on the direction of these sectors. So, instead of purchasing shares such as Exxon or Chevron to speculate in the energy space, you could purchase an ETF such as the XLE energy select ETF.
How Can You Trade ETFs?
There are several ways to speculate using Exchange Traded Funds. You can purchase ETFs directly through a stock broker, or use contracts for differences to track the movements of an ETF. The benefits of using CFDs is that you can increase your leverage up to 20-1 on more than 800-different ETFs. This allows you to diversify your trading strategy increasing the number of instruments you can use to speculate. Some traders will even use a pair trading strategy where they purchase one ETF and simultaneously short sell another ETF. A long/short pair strategy is market neutral and allows you to take a position that is market neutral. A pair trading strategy is attempting to benefit from one sector outperforming another sector. For example, if you purchase the technology sector ETF and sold the energy sector ETF at the beginning of 2019, you would have experienced a robust 31% gain.