Just under 50% of a stock move is directly related to its sector and industry group, which makes understanding how to analyze the strength of the stock industry group extremely important.

Once it is determined that the general market is in a healthy uptrend (which is always most important as trend followers and the M in CANSLIM) the next most important factor to determine is which stock industry groups are the strongest and leading the way higher.

The software I currently use to screen the market divides the stocks into 197 different ranked industry groups based on strength.

Though this software obviously makes the process faster and easier, it is not at all necessary. It mostly provides an idea of what’s going on at the surface level.

For our purposes, we need a deeper, more thorough understanding. We need to know not only whether a particular industry group is strong but also whether it’s relevant.

Fortunately for those of us that don’t have access to industry group ranking software, there are many programs available (and many that are free) that give us the ability to figure this out on our own and in much greater detail.

It is just a matter of running some simple relative strength and up on volume screens after the market closes at the end of the day. Maintain a watchlist of the strongest stocks in the strongest groups that you update daily. Also, maintain updated alerts on the names you consider to be the most actionable along the way.

In doing so, you are forced to stay in tune with rotation through the market’s leadership, or the lack thereof. Always remember, this is where your most valuable, relevant, and timely clues will come from with regard to the state of the general market’s trend.

For those of us that follow the CANSLIM methodology, or other similar trend-following approaches, the ideal scenario is when a broad base of traditional growth stocks are leading the way higher.

The top 5 or 6 strongest stocks in a group based on relative strength should mostly consist of newer names with explosive earnings and growing sponsorship. Historically, these are the groups from which the majority of the biggest winners have appeared.

No matter which strategy or methodology you may employ, analyzing the strength of a stock industry group is important because it plays a critical role in what kind of power a leading stock’s move may have.

Let’s discuss exactly how to analyze the strength of a stock’s industry group and what to look for that makes it relevant.

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What industry groups are exhibiting the most strength?

Ideally, we want to see areas of traditional growth leading the market higher.

Such groups may include but are not limited to computer hardware, semiconductor, software, medical equipment, biotech, specialty retail, and financial industry groups.

How big is the industry group?

Some industry groups are enormous, containing hundreds of stocks, while others contain only a handful. The larger the group is the better. If a particular group is on the smaller side, check to see if there are other groups in the same sector that are extremely similar in nature and are also exhibiting clear relative strength, which is often the case. 

The larger the group is the better. If a particular group is on the smaller side, check to see if there are other groups in the same sector that are extremely similar in nature and are also exhibiting clear relative strength, which is often the case. 

Which stocks are the strongest ones in the industry group?

Sort the group by relative strength from the strongest to the weakest. Then look at their charts and accompanying fundamentals. At a minimum, we want to see at least 3-5 institutional quality growth names in the same industry group, forming powerful, constructive, early-stage bases setting up and breaking out together.

A very large industry group (i.e. the biotechs) that begins its move higher with just 3-5 names forming constructive, early-stage bases and breaking out with the potential to broaden significantly is exactly what we are looking for.

Remember, it doesn’t have to be just one huge group. 

For example, the software sector is divided into ten different industry groups, consisting of almost 400 stocks. 

You may find 3-5 high-quality, leading stocks in the security group within the larger software sector that are building constructive bases and breaking out together while others are showing clear potential as they continue to build their bases.

Keep in mind, group confirmation is important. If there are just 1 or 2 stocks in a relatively small group of stocks acting well, it doesn’t mean much.

Understanding and applying the information discussed above, as simple and intuitive as it may seem, goes a very long way when it’s time to buy stocks, especially if you are a position trader who employs a trend-following strategy such as myself. 

Without a doubt, being in the right groups at the right time has been a key component to achieving consistent, outsized gains in the stock market over time.