Morpheus Trading: We’ve begun seeing a bit of sector rotation lately, with leading stocks and sectors cooling off and formerly lagging industries seeing a bit of buying interest.
Institutional sector rotation is common in bull markets, and the rotation of funds from one industry to another enables broad-based uptrends to remain intact, even when certain sectors are “overbought” (we hate that useless word).
The Technical Indicator That Never Lies
How do we know when sector rotation is taking place?
The easiest way to spot it is through observing changes in volume, one of the most reliable and useful technical indicators at our disposal.
Since institutional trading accounts for roughly 80% of the stock market’s average daily volume, the price action of stocks and ETFs is typically driven by the actions of the “smart money.”
Analysis of volume patterns tells us which side of the market banks, mutual funds, hedge funds, and other institutions are on.
If, for example, an equity is under distribution (institutional selling), it will eventually drop.
Conversely, an equity will eventually rise if under accumulation (institutional buying).
For this reason, volume is considered aÂ leading indicator, rather than a lagging one.
This is why our trading system is based on always following the dominant stock market trend (riding on the coattails of institutions).
So, Where’s The Money Flowing?
Solar energy, one of the leading sectors of the last wave up in the market, is one example of an industry that has recently come under distribution.
This can be seen on the weekly chart of Guggenheim Solar ETF (NYSEARCA:TAN), an ETF we recently sold for a 44% gain.
Notice the massive volume spike that accompanied last week’s 4.6% sell-off at the highs, which has so far led to further selling this week.