Technicals point to a utilities rally
They're not the most exciting bunch of stocks, but so far this year utilities are one of best performing sectors in the market. And this may be just the beginning, according to Mark Newton of Newton Advisors.
The ETF tracking utilities (trading under the symbol XLU) is up 6.7% year-to-date while the S&P 500 (^GSPC) is down 4.7%.
“It’s something that has started to show very good signs of outperformance in the last couple months for a couple different reasons,” said Newton. “You're starting to see an increased shift toward defensive-type positioning with the overall market volatility. Also, interest rates have plummeted in recent months. That's also helped to bring some appeal to this group.”
Because their dividends provide reliable and steady cash payments, utilities are often treated like coupon-paying bonds. When interest rates fall – or are expected to fall – investors pay up for that cash stream. The XLU’s dividend yield is around 3.4%.
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Although the Federal Reserve raised the fed funds rate in December, recent market turmoil has led the market to doubt there will be an additional rate hike until December. That is the earliest month futures contracts on the fed funds rate show odds of more than 50% that the Fed will take action.
According to Newton, the XLU recently broke above a downtrend in place since the start of 2015. That move coincided with increased uncertainty regarding interest rates. He expects the rally in utilities to extend.
“Given that we continue to be in an environment where yields are dropping, continued amounts of confusion with central bank policy, and overall volatility in the stock market, this still looks like an excellent sector to overweight in thinking that additional outperformance should happen in the months ahead,” he said.
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