Most Sector ETFs Fall to Oversold After Market Selloff

SPDR S&P 500 (NYSE: SPY) fell 1.11% yesterday with 80% of all the volume on the New York Exchange being to the downside. Heavy downside volume of 80% or more is often a sign that the market has become oversold in the short term. Another sign that a short-term reversal could be near is when a majority of sectors become oversold. Eight of thirteen sector ETFs ended the day with PowerRatings of 8 or higher. Only two of the sector ETFs began the day oversold by that measure.

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Any of the ETFs with a PowerRating of 8 or higher could be considered a buy on additional weakness.

PowerRatings are based on the relative strength or weakness of particular stocks or ETFs. The higher the rating, the greater the one week historical gain has been for stocks and ETFs with that rating. For best results, enter trades on stocks with a PowerRatings of 8 or higher with a limit order 3-7% below the previous day’s closing price. Higher % limit entries have historically shown a greater percentage of winning trades but higher % limit orders also reduce the chance of trade execution.

As an example of the results seen with these signals in the past, buying stocks with a rating of 9 on a 3% pullback the next day and selling five days later has been profitable 75% of the time with an average winner of 4.3%. Other entries and exits also show high winning percentages and large average gains.

There is no way to know if recent market weakness has been the start of a deeper decline or simply a one-day selloff in an ongoing bull market. Because markets can go to extremes, a scale-in strategy as explained in the Connors Research Guidebook ETF Scale-In Strategy could be useful. With If the market continues to fall, scale-in trading provides the opportunity to add to your position at even better prices since you can continue to buy as prices go lower until you have established your full position. If prices go down, the advantage of scale-in trading is that you have obtained some exposure to your desired position and will profit from the move.

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All data is as of the end of day on 4/7/2014.