Play the Divergence in Utilities

Market lore keeps close watch on utility stocks for signs of economic strength or weakness. This canary-in-the-coal mine sector can expose recessionary environments, as well as turning points ahead of periods of cyclical growth. Simply stated, recessions usually don't happen, or are shallower than expected, when this group is in rally mode.

All this gives the sector's current performance in this ugly bear market added significance. Utility stocks have acted better than expected since mid-October, holding high in their two-month trading ranges and never testing deep lows, unlike the broad indices. This supports a more positive technical tone for the group heading into 2009.

Dow Jones Utility Index

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Source: eSignal

The Dow Jones Utility Average posted an all-time high in January of this year and then pulled back. It broke the neckline of a 19-month head-and-shoulders topping pattern in September and sold off to a four-year low on Oct. 10 before shooting higher with the broad market. That bounce stalled near 400 just a few days later.

The index has been moving sideways since that time in a 70-point range defined by resistance at the bounce peak and support near 330. When the major indices broke the October lows before the Thanksgiving-week rally, this instrument held 37 points above its comparable low and jumped back to pattern resistance on Friday.

This relative strength points to renewed buying interest in the sector as well as early speculation that 2009 economic conditions won't be as severe as currently forecast. While it's foolish to assume too much from the uptick, the sponsorship tells us that investors are getting a bit more aggressive in this tough market.

Last week's rally helped the index by lifting price to six-week resistance. A buying thrust above Friday's high would complete a bullish Adam-and-Eve double bottom and mount the 50-day moving average. In turn, that would even support a continued recovery that could reach more formidable resistance near 450.