Market Leaders Give Way For Rotation Trades

We are really starting to see the cracks show in the current market leadership right now… And investors are starting to recognize a noticeable change in what’s working in the market.

After months of steady gains, stemming from the rebound move that kicked off in April, many of the stocks that powered higher during that rally are now running out of steam.

Traders who rode those names up are taking some of their profits off the table. And we’re likely to see this trend continue as we settle into September, a seasonally volatile time for stocks.

However, while some might view this as weakness, there’s another side to the story that shows we’re seeing some healthy action right now.

It all has to do with rotation, something we have talked about a few times now. Specifically, two sectors I saw benefiting from this rotation were homebuilders and biotech names. 

Today, I want to take a look at two more sectors I believe are poised to perform well as this rotation extends.

But first, let’s look at how these rotations form.

The rally that began in April was powerful. But no rally goes in a straight line.

When stocks run too far, too fast, they get stretched on both technical and fundamental levels.

Prices move well ahead of earnings growth or realistic expectations. That’s when disciplined traders step in and take money off the table.

The recent wave of profit-taking is a reflection of that discipline.

Names that more than doubled or surged 30 to 50% in just a few months are now cooling off.

It doesn’t mean those companies are suddenly bad investments; it just means the market needs to reset itself. Some of these stocks have simply gotten too expensive.

And overheated names can’t carry the entire market forever.

So when traders sell expensive stocks, they often turn around and redeploy that capital into cheaper names.

This rotation is the lifeblood of a healthy market. It allows momentum to broaden out rather than stay concentrated in a handful of sectors or mega-cap companies.

Without rotation, markets risk becoming top-heavy.

That kind of imbalance eventually collapses under its own weight. But when capital starts to flow into other areas such as small caps, financials, industrials, cyclical names, or others, it signals a more sustainable rally.

So while we last talked about biotech and homebuilders being two areas I am seeing money rotate into, I wanted to look at two more pockets of opportunity that stand to benefit from lower interest rates.

With pressure mounting on the Fed to start cutting rates, we could quickly see these sectors pick up steam.

First up, let’s look at small cap stocks…

Smaller companies tend to thrive when borrowing costs come down.

They’re more sensitive to changes in financing conditions because they often rely heavily on debt to fund growth.

Lower rates mean easier access to credit, cheaper financing, and better margins.

Historically, small caps have outperformed during periods of monetary easing, and traders are already beginning to rotate into these names.

With extra pressure on the Fed, I wouldn’t be surprised for some of these small caps to really blossom, at least in the short-term.

And one way to position yourself for gains on small caps is with the iShares Russell 2000 ETF (IWM).

ETFs act as a great way to gain exposure to a sector without having to do the leg-work of researching individual companies.

Then, some more stocks I see performing well in the coming months are the large cap financial companies.

When rates fall, corporations find it cheaper to issue bonds or refinance existing debt.

That translates directly into business for big banks, which earn substantial fees for underwriting and structuring those deals.

As companies rush to take advantage of lower borrowing costs, financial giants see a surge in activity across debt capital markets.

That makes them attractive plays during times of monetary easing.

So for active traders, it can pay to avoid clinging to overheated stocks.

If a position has delivered strong gains since April, it may be time to take profits and look for opportunities in sectors just beginning to benefit from the next phase of this cycle.

That doesn’t mean abandoning quality companies altogether.

It means reading the writings on the walls.

This kind of discipline helps traders avoid giving back gains while positioning themselves for the next wave of leadership.