An unlikely winner is emerging in the stock market: utility stocks
In a year marked by a significant milestone for rising interest rates (the 10-year Treasury note yield topping 3 percent), an unusual winner has begun to emerge in the stock market: utility stocks.
This sector is usually among the most vulnerable to rising rates, which make the companies' large dividend yields less attractive to the regular investors.
But not this year.
After gains in April, utility stocks are up 2.4 percent the last three months, the only major market sector in the green over that period. The S&P 500 has lost nearly 7 percent over that time span
As rising rates and tariff talk threatened large multinationals and caused a stock market correction beginning in February, some investors have turned to domestically oriented utilities with steady cash flow as a potential safe haven. Others have pointed to the valuation risk associated with major technology firms, and the FANG stocks in particular, as rates rise and a reason to hone in on utilities for the rest of an uneasy 2018 likely ahead.
"The group trades at a 20 percent discount to the broad tape and is approximately 20 percent less volatile," said Mike O'Rourke, chief market strategist at JonesTrading.
Financial advisors have rarely rushed towards recommending utilities stocks to clients given the average returns. In fact, over the past two years, while the S&P 500 has jumped nearly 30 percent, the utilities sector has gained only 6.5 percent — besting only the consumer staples and real estate sectors during that time. Even going back just to the start of the year, the sector has lagged the broader market, down 2% while the S&P 500 is trading fractionally in positive territory.
Of the 28 members of the S&P 500 Utilities sector, big names like PG&E Corp and Edison International have surged 10 percent and 6 percent, respectively, over the last three months. NRG Energy, meanwhile, has soared 17 percent – making it the tenth best performing stock in the entire S&P 500 during that time frame. The Utilities Select SPDR Fund is among the more popular exchange-traded funds to play the sector.
"Why shouldn't we look at strong dividend players, levered to the economy, in sound and important businesses that pay above market rate yields?" said Art Hogan, chief market strategist at B. Riley FBR.
Not all analysts though, are buying the sector's story, noting the rising interest rates could soon sink many of the outperforming utility names. Richard Saperstein, chief investment officer at HighTower Treasury Partners, told CNBC that his firm has zero exposure to the sector.
"The benefits of tax reform, global synchronized growth, [and] employment gains will extend the life of our economic expansion and eventually lead to inflation and higher interest rates. Utilities are interest sensitive. Avoid," Saperstein said.
Generally speaking, investors don't expect to see massive price appreciation for utilities stocks, but, even in a rising rate environment, the sector is catching more eyes than in years' past.