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Profit From Sector ETF Trend Divergence

By Deron Wagner
September 8, 2005

Are there benefits to determining which sector ETFs are showing the most divergent trends? You bet!

When the major indexes are steadily trending in one direction or the other, the broad-based ETFs are an ideal trading vehicle. To profit in a smoothly trending market, one only needs to identify which of the broad-based ETFs are trending the best and then initiate positions in the direction of that trend.

However, non-trending, choppy days are far more common than trending days over the course of an average week. While choppy markets may be ideal for day traders who thrive on volatility, they present a challenge for ETF "trend traders" who do not look outside of the most popular "big three" ETFs mentioned above. Swing traders who attempted to profit from positions in SPY or QQQQ from mid-May through the end of June can attest to the challenges of range-bound markets.

Profit From Sideways Action
Fortunately, there is a solution that enables ETF traders to profit even when the broad market is not cooperating. In this article, I will share the basic concepts of a technique that our company uses to trade ETFs in all market conditions, but specifically in sideways, range-bound markets. Though the "big three" ETFs are likely to stop you out due to whippy action in a range-bound market, there are always a handful of industry sector ETFs that show divergent trends from the broad market. These sector indexes often will generate double-digit percentage gains even while the S&P and Nasdaq are mostly unchanged. If you can identify those sectors that are showing the greatest degree of divergence, you can subsequently enter positions in the ETFs that most closely correspond with the particular sector. To do so, though, you first must be aware of the various types of ETFs and the families to which they belong. . . .