Last week I told you two of the sectors of the UK stock market I hate most: banks and house builders. With banks I went as far as to say it’s a down right short, something I don’t normally advise.
Today I want to tell you something that’s on my buy-list – and show you how to trade it. And my reasoning is hardly rocket science. But perhaps that’s not such a bad thing. I mean, if the investment case makes itself, then it’s probably worth a look.
While the UK languishes, one sector is looking good
I’m a great fan of the British industrial engineering sector. It’s just a darned shame there’s so little of it left!
But what’s got me excited right now is that industry and engineering is staging a comeback. It’s great to read that science and engineering degree places are in great demand these days. Now that students are coming out of college with whacking great big debts, it’s never been more important that they come out with a useful degree too.
And it’s great to see Britain starting to re-balance its economy in our industrial heartlands too. With around two-thirds of GDP currently spewing into consumption, things are set to change.
Just look at this chart. Over the last couple of years the FTSE 100 (blue line) has barely budged.
FTSE 100 vs industrial engineering sector – last three years
But just take a look at that pink line – that’s the industrial engineering sector. It has more than doubled in the last couple of years.
The world is waking up to Britain’s industrial engineers. As the pound has moved from being way over-valued before the credit crunch, it’s allowed this great sector to get back on a level playing field. This is a global industry and the value of the pound really matters.
The lower the pound, the cheaper our exports look. Sure consumers get hit hard as our imports get dearer. But hopefully that’ll mean we spend less money on so-called ‘consumption’. This is exactly what we need.
And there’s more. You see, if the UK economy as a whole continues to struggle, our exporting sector may do better still…
That’s because as the economy struggles, Mervyn King and his team at the Bank of England will want to keep interest rates low. And if things get really bad, another round of quantitative easing can’t be ruled out; that’ll be dreadful for the pound. And what’s bad for the pound is good for our exporters.
This story hasn’t been, and won’t be lost on investors. That’s why I’m keen on the engineering sector as a whole. Here’s how I think we can play it.
Sector investing with a spread bet
I’ve got my personal favourites in the industrial engineering sector – and my portfolio has what I hope are some little golden nuggets buried within it. But I’m not going to pretend that I know exactly which stocks will do best over the coming years.
That’s why I’ve put my money down on the sector as a whole too. Here you can leave the hassle of stock picking to one side. By investing in the sector, all you need worry about is that the momentum behind the industrial engineers continues.
And I think it will.
The easiest way to put your money behind a sector is with a spread bet. If you don’t have an account already, you can compare the top 20 spread betting accounts using our spread betting comparison table.
On my IG Index spread-betting account, I click on the ‘indices’ button, then ‘UK sectors’. Here I find all the individual FTSE 350 sectors.
This morning the FTSE 350 Industrial Engineering sector was quoted at 7,351-7,400 for the September contract. So basically you can sell the index at 7,351, or buy it at 7,400; so the spread between the buy/sell is about 0.7%.
Within that spread is the cost of financing the bet. Because you only need to put down 5% of the value of your bet, the spread-bet provider is financing the other 95% of your exposure. Obviously they’re not going to do that for nothing. That’s why they charge you a bit more the further out the contract is. For example, the June contract is slightly cheaper to buy than the September one.
If you bet £1 a point on the September contract, then, to all intents and purposes, you’ve invested £7,400 split amongst the constituents of the industrial engineering sector.
And so that you get your dividends, the account provider should make a cash adjustment to your account as they go ex-dividend. Different providers deal with this differently, so it may be worth checking out with them.
Don’t lose your position by setting your stop loss too close
Though you only have to put 5% margin down for a bet on the sector, I think you’re better off putting down more. I recommend putting down at least 10% and setting your stop loss there. So in this example, if you buy the FTSE 350 Industrial Engineering sector at 7400, set your stop loss at 740 points below that.
You see, if you’ve only got 5% down and the markets suffer a bad week, the sector can easily go down 5%. So you’ll get closed out of your position. Or you can end up losing more than the money you put down!
And then if the markets bounce back, you’ll not only be shut out, but you’ll be nursing a loss too. You’ll have lost your entire 5% deposit.
That’s why I prefer to put down a bit more margin and set my stop loss at a realistic level – even though if the market does carry on down and triggers the stop loss, we lose more than if we were using a tighter stop loss.
I’ll talk a little more about stop-losses and the best place to put them in future issues of The Right Side.
For now, though, I’d say a bet on the re-balancing of our economy back towards production is a good one. Place your bet! Buy the FTSE 350 Industrial Engineering sector with a 10% stop loss.
If you’re new to spread betting, do be aware of the risks involved. It can be a very efficient way to trade as you only need to put down a proportion of your exposure. But at the same time, if the trade goes against you, you can lose more than your initial stake. So please don’t put down more than you can afford to lose.
For regular tips on honing your spread betting skills it’s well worth signing up to my colleague John Burford’s excellent free trading email.
• This article was first published in the free investment email The Right side. Sign up to The Right Side here.
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