Technicals Sunday: Utilities lagged during the first half

Mike Zaccardi, CFA, CMT

Utility stocks (as measured by the XLU sector ETF) sharply outperformed the US stock market to start 2020. To the tune of 15% of ‘alpha’ as money managers would say. How’d that happen? A couple of reasons.

1. Momentum from big utility stocks like Nextera persisted. So while utilities are usually defensive in nature, the sector has transformed a little bit to be more technology-focused due to renewable energy’s growth.

2. Utilities showed their relative safe-haven nature during the February 19 to March 23 bear market in stocks. XLU initially beat SPY by more than 10% during the early onset of the COVID-19 induced bear market. XLU then got taken out to the woodshed in the last days of that short-lived bear market.

So here we are having just finished off the first half of the year. How has XLU done versus the broader US stock market? XLU is down 9% while SPY is down 2% (both on a total return basis – price and dividends included).

Utility stocks have been underperforming the broad market since mid-March all while interest rates have stayed quite low. Investors have been more enamored with big cap technology stocks of late. In fact, during early May, XLU had underperformed Spy by 12% over the trailing 1-month timeframe.

So the Utilities sector has not been a great place to be. What could change that? Well interest rates have to stay low – the higher rates go, the more interest expense utility firms will face since they are a rather debt-heavy sector. Also, a little rocky-ness for the broader market may allow for some relative strength among utilities once again.

The second half of 2020 will be fascinating and uneasy – from COVID-19 risks to the election in November. The turbulent times are likely not over yet.

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Chart source: Stoockcharts.com