It was difficult not to win big by investing in stocks last year as even the worst performing market sector, energy, returned 12% and the best performer, information technology, soared 50%. But selecting stock winners in 2020 may be much more challenging after a record 11 years of a bull market, including the huge run-up in 2019. Bottom Line Personal asked market strategist Neena Mishra to sort out which areas of the stock market are most likely to do best this year…which are most likely to lag…and which exchange-traded funds can help you take advantage of the bright spots in the market without subjecting you to the risks of picking  individual stocks…

Sectors to Overweight

Focusing on these four sectors in 2020 gives you the potential to outperform the overall market…

Consumer discretionary. The spending strength of the US consumer, as reflected by a 4.1% increase in year-end 2019 holiday sales, according to the National Retail Federation, has helped power the bull market. The lowest unemployment in five decades should help maintain that strength. Although many traditional retailers in this sector have been hurt badly by the growing presence of Amazon.com and/or other online competitors, various companies are learning how to thrive despite that competition.

Best way to invest in the sector: John Hancock Multifactor Consumer Discretionary ETF (JHMC) invests in about 110 companies, many of which are doing well despite online competition. The top holdings in the fund, which was launched in 2015, include the parent company of discount chains T.J. Maxx and Home Goods…home improvement chains Home Depot and Lowe’s…electronics retailer Best Buy…and online powerhouse Amazon. Three-year performance: 11%.*

Health care. Last year this sector, with companies ranging from pharmaceutical firms to hospitals to medical device manufacturers, had the second lowest overall returns of any sector in the S&P 500 after energy, even though it gained 21%, including a spurt late in the year. Investors were concerned that corporate profits would be hurt by possible drug-pricing legislation and Medicare for All, the single-payer health insurance plan proposed by some presidential candidates. Neither threat is likely to materialize this year and the stocks in this sector are relatively cheap now. In particular, I like biotechnology stocks, which will benefit from strong merger-and-acquisition activity as global pharmaceutical companies pay large premiums for promising young firms in order to augment their pipelines of big-selling drugs.

Best way to invest in the sector: SPDR S&P Biotech ETF (XBI) uses an equal-weight system in its 123-stock portfolio, so the performance of a $140 billion company has the same impact as a $500 million one. This allows the fund to get the most out of potentially explosive gains by tiny firms that win FDA approval for a new drug or get bought out by a larger company. The fund can be very volatile, but it has beaten the S&P 500 over the past decade by an average of four percentage points a year. Performance: 18%.

Real estate. Most companies in this sector ownresidential, industrial and/or retail properties that generate steady, reliable cash flow. They’re structured as real estate investment trusts (REITS), which earn certain corporate tax breaks in exchange for paying out most of their income to shareholders in the form of dividends each year. REITs are in a sweet spot right now. They will attract yield-starved investors because their dividend yields look very attractive compared with the recent 1.6% yield on 10-year US Treasuries. Although shopping mall REITs have been suffering because of competition from online retailers, other subsectors of the real estate industry will continue to thrive in 2020, including REITs that own wireless telecommunication towers and self-storage facilities.

Best way to invest in the sector: Vanguard Real Estate ETF (VNQ) spreads its assets among 185 companies, with an emphasis on the fastest-growing areas of commercial real estate. Top holdings include telecom cell tower company American Tower and Public Storage, the leading self-storage business in the US. Recent yield: 3.4%. Performance: 12%.

Information technology. This sector, which ranges from computer hardware and software to communications and electronic equipment, had the best performance of any sector in the S&P 500 last year. Valuations have been steep this year, but the sector can continue to move higher, powered by two dynamic areas: Cloud computing, which involves storing and accessing data from remote servers over the Internet, is growing 30% annually…and semiconductor chips, which will see a windfall from the rollout of ultra-fast 5G (fifth-generation) wireless communications.

Best way to invest in the sector: Vanguard Information Technology ETF (VGT) provides wide exposure encompassing many areas of technology. It holds about 325 mostly large- and mid-cap stocks including Apple, Microsoft and Intel. Its 0.1% expense ratio is among the lowest in the industry. Note: I like that the fund does not include two overvalued behemoths that are facing growing regulatory scrutiny over privacy concerns, Alphabet and Facebook. They are typically classified as communication-services companies. (See below.) Performance: 17%.

More aggressive investors can consider zeroing in on the most attractive but riskier subsectors in the technology industry. These funds can be volatile because they are highly focused and own a relatively small number of stocks:  

iShares PHLX Semiconductor ETF (SOXX) holds 30 semiconductor chip makers including global smartphone supplier Qualcomm and memory chipmaker Micron Technology: Performance: 19.5%.

Global X Cloud Computing ETF (CLOU), which was launched in April 2019, has attracted about half-a-billion dollars from investors. It recently held shares in 36 fast-growingcompanies in developed and emerging markets that are positioned to benefit from the increased adoption of cloud computing technology.  

Sectors to Underweight

The following seven sectors are likely to underperform or just match the S&P 500. It’s okay to have exposure to them in a diversified fund that tracks the broad market, but I would not purchase or add to funds that track these specific sectors…   

Communication services. This sector used to be dominated by traditional telecom companies. But in 2018, S&P 500 sectors underwent a major realignment, transferring media, online content and entertainment companies from two other sectors to communications services to better reflect the evolving US economy. Although stocks in this group returned 33% overall last year, second only to information technology, it makes sense to avoid it now because just two companies Google parent Alphabet Inc. and Facebook—now constitute nearly half of the entire sector when measured by market capitalization.  

Consumer staples. Food, beverage and household goods companies in this sector have low growth prospects and tend to shine in an economic downturn, which is unlikely to appear in 2020.

Energy. Years of underperformance in this oil-and-gas sector have left valuations at dirt-cheap levels. Despite that, prospects for a rebound aren’t very attractive. The world will continue to have an oversupply of oil and natural gas this year, which will keep energy prices contained, hurt profits and prevent significant stock gains.

Financials. Shares of banks and brokerage firms, which dominate this group, are very cheap now. But they won’t perk up until interest rates start to rise, which is unlikely anytime soon. Low interest rates hinder their ability to earn net interest income, the difference between what they pay for deposits and what they earn through lending.  

Industrial and materials. The industrials sector consists of manufacturing companies, and materials refers to businesses that gather and refine raw materials.The profits in these two sectors depend heavily on global trade and foreign economic growth, neither of which is very promising this year, especially as the spread of the deadly coronavirus threatened to impact manufacturing. And although the phase-one trade deal with China calls for that country to buy an additional $200 billion of American goods including agricultural and manufacturing products over the next two years, US manufacturers still face headwinds. For example, there are still US tariffs on $370 billion of imported goods from China, including components that American factories use to assemble finished products.  Utilities. These providers of basic amenities such as water and electricity are slow-growing, defensive investments that pay dividends and are among the sectors that usually do well in economic downturns. Utilities did well last year because investors were seeking safe havens from threats of recession. With economic prospects more positive this year, these stocks appear overvalued and their recent average yield has fallen under 3%.

* ETF performance figures are annualized returns for 10 years through DATE TK, 2020 unless otherwise noted.