The financial sector could use a rest.

Financial stocks have been leading the market higher since October. The Financial Select Sector Fund (XLF) is up 32% over the past five months. It hit a new all-time high yesterday. And, institutional investors are shoveling money into the sector as they dress up their portfolios for the end of the quarter.

But, there’s a giant “CAUTION” sign flashing over the sector right now. The Financial Sector Bullish Percent Index (BPFINA) just triggered a sell signal.

Take a look…

Longtime readers know that a bullish percent index (BPI) shows the percentage of stocks in a sector that are trading in bullish technical patterns. It’s an easy way to measure overbought and oversold conditions for a sector.

Typically, a reading above 80 – meaning 80% of the stocks are trading in bullish technical patterns – means a sector is overbought. Readings below 30 indicate oversold conditions.

Buy and sell signals occur when a BPI reaches extreme levels and then reverses. For example, when a BPI rallies above 80 and then turns lower it generates a sell signal. When a BPI dips below 30 and then turns higher, that’s usually time to buy.

The red arrows on the chart show the BPFINA sell signals over the past 16 months.

Here’s how XLF behaved following each of those signals…

Two of the three previous sell signals preceded sharp declines in the financial sector. XLF fell 14% in one month following the sell signal in February 2022. It fell 6% in one month when the BPFINA said “sell” last July.

The sell signal in December played out differently, though. Rather than falling, XLF merely chopped around for a month before resuming its rally.

So, how will the current sell signal play out?

There’s no way to know for sure. But, based on the action following the sell signals last year, there’s a 67% chance the financial sector will be trading lower one month from now. There’s a 33% chance it marks time, consolidates, and builds up energy to fuel another move higher.

Either way, it looks to me like the financial sector will be taking a break for the next few weeks.

Best regards and good trading,

Jeff Clark

Source: Jeff Clark Trader