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Quick Thought Of The Week: Rotation

Brian-Hillegas-Flickr

The buzz word in the market at the moment is rotation. This is when one sector of the market, which has done well, falls out of favour and another is rotated into its place.

That is how fickle the market can be.

For several years now, many investors have fallen madly in love with technology stocks. Why? Because they were going up.

Analysts even created an acronym for five of the most loved ones. It was FAANG, which referred to Facebook, Amazon, Apple, Netflix and Google….

…. I’m glad the chosen stocks weren’t Ctrip, Regeneron, Activision and Paychex. I can’t begin to imagine what their acronym would have been.

But FAANG was a catchy acronym. It had bite. So catchy was the acronym that even when Google changed its name to Alphabet, it still stuck because FAANA would not only have sounded ridiculous but maybe a bit rude too.

As more money poured into the five FAANG stocks, their market valuations grew. Their weightings in indices that track the tech-heavy NASDAQ became increasingly heavier. Together they account currently for almost a quarter of the NASDAQ composite index.

The upshot is that they can have a disproportionate impact on the index. Small improvements in their share prices can drive up the index, significantly.

But any falls can have the opposite effect. That didn’t seem at all likely, though. For many years, the FAANG stocks could do no wrong.

But not anymore.

The loss of face at Facebook over the spreading of fake news has stripped away their air of invincibility. They can’t walk on water – we only thought they could.

Problem is what could happen if investors should bale out of NASDAQ or any of those FAANG stocks?

In a word – awful, even if their underlying businesses are performing well. Their share prices could fall because they are no longer in demand.

Such are the vagaries of the stock market. It is little wonder that some people think that the stock market is just one big casino, where prices can seemingly go up and down without rhyme or reason.

But here’s the thing: rotation is just another word for market timing.

Swinging from one fashionable sector to anther might seem logical. But it is as sensible as switching from one supermarket cashier queue to another in the hope that it might move faster. Some shoppers actually do that.

That is not to say that selling is always a bad idea. Sell if you believe that the story behind a company has changed. Sell if you think that valuations have become too stretched. Sell if you need the cash.

But don’t sell just because some analyst says it’s time to rotate.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Director David Kuo doesn’t own shares in any companies mentioned.