Many investors like to focus on particular sectors of the stock market. By identifying broader trends and looking at how they affect companies in different industries, you can come up with a strategy for investing in sector funds in the hopes of outperforming the overall market.
Stocks did exceptionally well in 2019, and the big standout sector was technology. However, there were some other industries that also gave their investors a lot to celebrate. Below, we'll look more closely at how Technology Select Sector SPDR (XLK -0.22%), Financial Select Sector SPDR (XLF -0.58%), and Communication Services Select Sector SPDR (XLC -3.56%) did so well in 2019 and why they could have more room to run in 2020.
XLK Total Return Price data by YCharts.
Riding the tech wave
It's easy to understand why the technology sector fund did as well as it did. Most sector funds are weighted by market capitalization, and two of the largest companies in the world -- Apple and Microsoft -- dazzled investors with gains of around 80% and 55%, respectively, in 2019.
Image source: Getty Images.
Technology took a hard hit toward the end of 2018, when investors became worried that the long bull market in stocks was coming to an end amid recessionary pressures. Yet the economy turned itself around in 2019, and that restored confidence in the fast-growing sector. In addition to the biggest stocks in the sector, small technology players also had some outstanding performances.
Looking forward to 2020, few of those following the sector believe that tech stalwarts like Apple and Microsoft will be able to duplicate their 2019 performances. However, many tech companies that have pursued software-as-a-service business models have done extremely well over time, and there's more room for improvement. That could keep the tech sector booming throughout the year and beyond.
Bouncing back with banks
The financial sector fund had an up-and-down year in 2019 as investors got whipsawed by a shift in monetary policy by the Federal Reserve. Earlier in the year, it looked as though rates would keep moving higher, which supported higher profits for big banks. Then, the Fed reversed course, cutting rates and raising some fears about a possible recession. Yet by the end of the year, investors had identified banks and other financial stocks as promising value plays that had greater prospects for long-term success than many had given them credit for having.
Heading into 2020, few expect any major shifts in short-term interest rates, and if the economy can remain reasonably strong, that could spur greater financing activity that would further bolster results for lenders. Geopolitical risk creates some uncertainties, but with more than a decade having gone by since the financial crisis, investors seem to have had their confidence in banks and other financial stocks fully restored.
Communicating gains
Finally, the communication services sector fund had a strong performance in 2019 as the group carved away from the technology sector in 2018 benefited from many of the same trends that boosted tech. Top holdings like social media giant Facebook and online jack-of-all-trades Alphabet continued to demonstrate their ability to produce gains in revenue and keep users coming back. Other players in the space benefited from ongoing technological innovations.
There are plenty of reasons for optimism in communication services, with the rollout of 5G continuing to generate excitement and offering wireless network and cable stocks the ability to upsell their current customer base to higher-performing products. If that trend catches hold, 2020 could be another exciting year for the sector.
Invest better in 2020
It's always tough to score a repeat win, and it's possible that the factors that helped these three sector funds in 2019 will reverse themselves in 2020. However, regardless of whether you use these funds or choose others, sector funds let you tailor your exposure in whatever way best fits with your views on the market.
