Sector Rotation (Momentum)
Rotate into sectors with strongest relative momentum (e.g. 3–6m) and out of weakest; rebalance monthly.
Thesis (edge)
Sector leadership persists over 3–6 months. Overweight top momentum sectors and underweight or avoid bottom sectors to capture relative strength.
Where it works (regimes)
Works in trending equity markets. Weak in choppy, fast-rotating regimes. Best with monthly rebalance to limit turnover.
Signals
- ( r_{3m}(s) ), ( r_{6m}(s) ) per sector. Composite rank or average.
- Long top 3–5 sectors; avoid or short bottom 2 (optional).
Portfolio construction
Equal weight or risk-parity across selected sectors. Rebalance monthly. Max single sector 30%.
Risk model
Tail: sector crash (e.g. tech 2000). Diversify across sectors; use vol awareness.
Costs & implementation
Moderate turnover (monthly). ETF spreads and rebalance cost. Use liquid sector ETFs.
Failure modes
Overfitting lookback; chasing last month’s winners; sector concentration.
Our Notes & Suggestions
Combine 3m and 6m to smooth signals. Consider excluding or capping highly correlated sectors. Walk-forward the number of sectors and lookback.
Our Notes & Suggestions
See the "Our Notes" subsection in the body above for practical guidance, gotchas, and best practices. Always validate regime assumptions and transaction cost assumptions before scaling.
Implementation Checklist
- Compute 3m and 6m returns per sector ETF
- Rank sectors; select top N (e.g. 3–5)
- Equal or vol weight; rebalance monthly
- Backtest with realistic costs