Cramer: Buying Stocks – An Often Overlooked Catalyst

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When buying stock, of course it's important to understand a company's earnings report. Digging down into the nitty-gritty often reveals insights that can lead to substantial profits.

But there are circumstances when shrewd investors not only dig down, they also step back and survey sentiment in the sector.

That's because, "Historically a stock's sector has counted toward as much as 50% of a stock's performance," Cramer said.

Therefore in order to make money in the market, Cramer says it's critical to understand the sector as well as the metrics of each single stock in your portfolio.

In some cases, as the sector gains favor certain stocks will outperform.

For example, when the Street turned bullish on retail in late 2012, "And everyone piled into the retail sector via the RTH, I looked for stocks with the best momentum," Cramer said. "In the past, I have been drawn to Ross Stores, TJX and Bed Bath & Beyond during the sector grab because at the time these stocks had the most inexpensive earnings momentum," Cramer said

Profit Flat Loss Sign
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Profit Flat Loss Sign

Conversely, if a sector is languishing it will be very difficult for a stock to perform, no matter how strong earnings may be.

"Take, for example, the way that banks traded until late 2012. It didn't matter for the most part whether a bank had strong earnings or weak earnings. If a bank was in the XLF, the financial ETF, it didn't matter how well or poorly a bank had performed. A bank like Wells Fargo or US Bancorp, domestic banks with little exposure to a weakened Europe, traded similarly to a Citigroup or a JP Morgan, with tremendous exposure to the continent."

Sector - as a Hedge

In addition, Cramer added investors can benefit from sector analysis in another way - the sector can allow investors to hedge bets against the single stocks.

"After I've done my homework and determined which stocks are the best of breed in their sector, I sometimes establish a long position in those names but then short the sector ETF," Cramer said.

"That way if the move takes a turn for the worse, I will lose less than if I were only long."

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What's the bottom line?

When you're buying stocks, it's as important to understand a sector as it is the stock you're intending to buy.

"If you do not measure the stock's earnings against the sector's growth and if you do not determine first whether the sector is in favor versus out of favor than the earnings report, better than expected or not, just won't mean a thing," said Cramer.

Call Cramer: 1-800-743-CNBC

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