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These Are The Worst Sectors To Invest In (How You Can Benefit From It)

Sector trading and investing is a type of strategy where an investor focuses on buying or investing (and later selling) securities within a specific sector of the economy. For example, an investor may focus on buying and selling stocks within the technology sector, or stocks within the energy sector. Sector trading is a form of active trading that might involve a higher level of risk than investing in the broad stock market. What are the worst sectors to invest in?

The worst sectors to invest in are information technology, energy, utilities, and materials. These sectors have the lowest median returns.

First, let’s explain what industries and sectors are:

Industry vs sector

These two definitions seem at first the same, but they are different. What is the difference between the seemingly same meaning?

Industry refers to a specific branch of economic activity, such as the automotive industry or the pharmaceutical industry. It is typically defined by the type of goods or services it creates, such as cars, pharmaceuticals, or technology.

Sector is a broader category that groups multiple industries together. For example, the automotive, pharmaceutical, and technology industries can all be grouped together under the technology sector. The sector level is typically divided into two categories: cyclical and non-cyclical. Cyclical sectors are those that are affected by the economic cycle, such as the automotive industry. Non-cyclical sectors are those that are less affected by the economic cycle, such as the pharmaceutical industry.

How many sectors are there in the stock market?

S&P has divided the stock market into 11 sectors (in parenthesis we have the ticker code of the oldest ETF that tracks the sector):

  • Information technology (XLK)
  • Healthcare (XLV)
  • Financials (XLF)
  • Consumer discretionary (XLY)
  • Communication services (XLC)
  • Industrials (XLI)
  • Energy (XLE)
  • Utilities (XLU)
  • Real estate (VNQ)
  • Materials (XLB)

We have covered each of the sectors with a strategy and backtest:

Sector trading strategies and systems (backtest)

Here’s our list of sectors:

How to measure the worst sector to invest in

We base the research and conclusions in this article on research done by JP Morgan in a research paper from 2015 called The Agony And The ExtasyThe Risks And Rewards Of A Concentrated Stock Portfolio. This is an extremely interesting read and is packed with statics and data, something that every data-driven trader or investor love.

Before we delve into JP Morgan’s research paper, let’s have a look at why it’s important to know the worst sector to invest in:

Why you should know the worst sectors to invest in (how you can benefit)

In the stock market, we tend to focus on the winners, but we can probably learn a lot more by looking at the failures and losers. When we see a successful company or stock, we tend to forget that there are many more losers for every winner.

It might be smart to focus on the losers and how to avoid them. Perhaps returns can be improved simply by ignoring the worst sectors to invest in?

It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.

Charlie Munger

Charlie Munger is known for his thoughts on inverse thinking. What does inverse thinking mean?

Inverse thinking is a way of looking at problems or solutions from a different perspective. It involves considering the opposite of what is normally assumed and taking a different approach to a problem. It involves looking at the problem from a different angle and asking different questions than you would normally ask in order to come up with a unique solution.

Here are two examples of inverse thinking:

If you know how to live a miserable life, then simply avoid doing these things and you’ll get happier. It’s the same principle in tennis:

In 1975 Charles D. Ellis wrote an article in The Financial Analysts Journal called The Loser’s Game. Ellis spends part of his article referencing a book by Simo Ramo called Extraordinary Tennis for The Ordinary Tennis Player. Ramo was a scientist and statistician and he started a project studying tennis matches played by both professionals and amateurs. Ramo concluded:

In expert tennis, about 80 percent of the points are won; in amateur tennis, about 80 percent of the points are lost. In other words, professional tennis is a winner’s game – the final outcome is determined by the activities of the winner – and amateur tennis is a loser’s game – the final outcome is determined by the activities of the loser.

Perhaps we are better off looking at the other end of the stick?

These are the worst sectors to invest in

JP Morgan’s research is based on the components of Russell 3000 from 1980 until 2015. The index is market-weighted and tracks the 3000 biggest companies in the US which together account for about 95% of the total market capitalization.

There are many ways to determine the worst sectors to invest in. One way is to look at the number of stocks in a sector that experienced a “catastrophic loss”.

Sectors and catastrophic losses

JP Morgan defined a “catastrophic loss” as a loss of a decline of 70% or more from the peak, and the subsequent recovery was less than 60% of the loss. The numbers of these losses are summarized in this table:

These Are The Worst Sectors To Invest In

Telecom, information technology, and energy are the three sectors that suffered the most catastrophic losses. All in all, 40% of the stock universe had catastrophic losses!

The sector with the least catastrophic losses was utilities. This is perhaps expected due to them being heavily regulated. Perhaps a bit surprising, at least to us, is that financials have such a low number of losses. The third best, consumer staples, is not very surprising (the favorite sector of Warren Buffett?).

One other way is to look at the compounding returns of each sector:

Sectors and lifetime returns (compounding returns)

Let’s move on and look at the number of stocks in each sector that has excess return compared to Russell 3000. The research is summarized in this table:

The worst sectors to invest in

By looking at excess returns, we see that the utility sector is the worst sector followed by energy and materials.

Clearly, from the tables above, the most stable sector to invest in is utilities, but the stability comes at a cost: in the long term, returns are not good. That makes sense because it’s a highly regulated business where the barriers of entry are extremely tough. Thus, the companies can more or less chug along without worrying too much about competition.

We believe banks are one subsector that resembles more and more like the utility sector. After the financial crisis in 2008/09, they are much more regulated and completion has worsened.

Let’s go on to look at success and failure rates:

The worst sectors to invest in (success and failure rates)

How can it be that Russell 300 has generated strong positive returns all the while so many stocks have performed poorly?

The reason is that a few stocks go on to make spectacular returns. Look at the table below:

The worst sectors (distribution of returns)

The median stock produces negative returns in its lifetime, while the minority goes on to multiple. Remember that a stock can only fall 100% while a stock can rise unlimitedly! This also illustrates why it’s so difficult to profit from shorting stocks. Shorting is most of the time painful and is best served for the sadomasochistic.

Nassim Nicholas Taleb is famous for his writing on randomness and expectancy. His prime idea of investing is to use the Barbell Strategy: you have some safe assets on one side of the barbell, while you have a small number of assets on the other side that have the potential to multiply.

These are the worst sectors to invest in – conclusion

Based on the tables from JP Morgan, we conclude that utilities, information technology, energy, and materials are the worst sectors to invest in. However, you might disagree depending on which factors to look at. But no matter what, we hope that the tables and summaries from JP Morgan have forced you to rethink your investment strategy.

List of trading strategies

We have more than 900 articles in our library since we started writing in 2012. We have plenty of both free and paid strategies that contain specific trading strategies that have trading rules and performance metrics.

We have compiled many of those strategies into a package of code that you can order. The strategies are taken from our trading strategy list. The strategies are an excellent resource to help you get some trading ideas.

The strategies also come with logic in plain English (plain English is for Python traders).

For a list of the strategies we have made please click on the green banner:

These strategies must not be misunderstood for the premium strategies that we charge a fee for: