The Best Bets in Sector Investing

Despite uncertainty, bull market offers a prime opportunity to explore sector investing.

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The presidential election has caused widespread uncertainty about the future of the economy. But even as Wall Street takes a wait-and-see approach, the stock market continues to surge.

According to Paul Desmond, president of Lowry Research Corp. in Florida, this bull market is unique in that it's lasted so long. "This bull market has been going on for 44 months," says Desmond. "If you look at the lengths of bull markets in the past, the average lasts around 39 months. We're a little long in the tooth here."

Desmond says small- and mid-cap companies—or small- and midsized businesses—have led the rally. As the bull market continues, investors are looking to see whether larger companies can continue to push markets higher. Such focus on large companies warrants an exploration of sector investing.

Sector investing basics. When investors put money into a sector mutual fund, they are betting on the overall performance of all the companies in that sector. In other words, they are banking on the success of a related product or service.

[Read: Fearful Investors Shouldn't Hide.]

Sector funds are available through brokerages like Charles Schwab and Fidelity. For instance, Fidelity offers funds in 10 sectors, ranging from energy to healthcare.

Despite the uncertain market environment, investment managers interviewed by U.S. News pointed to three sector investments that are poised to outperform, as well as sectors that should be avoided.

Hot Sectors

Telecom. According to Kim Caughey Forrest, a vice president at Fort Pitt Capital in Pittsburgh, the telecommunications sector provides an opportunity as more and more devices use data supplied by telecom companies, not just in the United States, but also throughout the world.

One way to gauge the strength of the sector is to look at the current cost of data and mobile phone plans. "Did you ever think you'd be paying so much for your phone bill?" Forrest asked. "I never thought it would get this high."

Insurance. Forrest also notes that the insurance sector has been outperforming in recent months. Lowry's Desmond agrees that these stocks are a good investment, providing that there isn't a large natural disaster in the coming months. "Insurance is a good, solid business and we haven't had any hurricanes for the last year," Desmond says.

Energy. Desmond also recommends investments in the energy sector, especially companies that provide fuel. Forrest says sectors that service the energy industry—the commercial transportation sector, for instance—are also strong buys.

[Read: When Diversifying, It's Asset Class That Matters.]

Sectors to Avoid

Top-heavy sectors. According to Desmond, one of the keys to successful sector investing is recognizing a sector's strength from top to bottom. For instance, the high-tech industry has been a popular buy in recent months, but its performance is misleading. Most of the sector's strength comes from huge gains by large-cap names like Apple, while other companies in the sector are underperforming. If Apple stumbles, so will the rest.

Desmond says avoiding sectors powered by one or two companies is imperative. "If you own a weak stock in a strong group, the weak stock will get pulled along by the stronger companies," Desmond says. "Every person can have their own reason why they buy an individual stock. But when you look at sector investing, you're looking for a concentration of buying enthusiasm."

Sectors affected by the government. Fort Pitt's Forrest recommends staying away from sectors that will be affected by the political uncertainty in Washington. "I have no idea who's going to win. But I still have to manage money," says Forrest.

Because of these concerns, she recommends avoiding sectors whose futures depend on the outcome of the election. Companies in these sectors are unable to plan for their immediate future until the winner is clear.

"We've always been focused on the long term. But we have stayed away from banks. There's a lot of uncertainty around the mortgage market," Forrest says. "There's tons of uncertainty in financial services."