Is The Correction In Utility Stocks Over?

By Jim Donnelly, Olson Global Markets

When looking at the weekly chart of the Dow Jones Utility Index (DJU), it does look like an intermediate-term bottom in utility stocks has been made. Oversold conditions combined with a rebound off key trend line support at 437.57 suggest that a move back into the utility sector by investors may now be underway.

Since early August, a period of weakness had occurred in the DJU due in part to softness in demand for electricity. A pre-“fiscal cliff” aversion to dividend paying stocks in anticipation of a hike in taxes on both dividends and capital gains also weighed on utility stocks as well.

With anemic domestic growth still at hand however, and acting as a drag on demand for electricity, the likelihood of a possible QE4 stimulus plan could be announced as early as this week. Such a monetary program would replace “operation twist”, which is a sanitized bond buying scheme where the Fed sells short-dated securities and buys longer dated bonds. QE4 would instead increase the amount of outright purchases of either Mortgage-Backed Securities (MBS) or longer dated treasuries …up from the current program of buying $40B of MBS per month.

If the Federal Reserve does announce QE4 soon, a move back into dividend paying stocks, such as utilities, could be triggered with income starved pension plans as well as retirees looking to replace CD income or interest from older higher yielding bonds that have matured or have been called away.

In addition, some analysts suggest that the announcement of QE4 could be a hint that the Federal Reserve might keep short-term interest rates near zero percent for a longer period of time than is currently expected by investors. In turn, that might suggest that even if a political agreement over the “fiscal cliff” was to be struck, worries over lackluster global growth might persist as tax increases and government spending cuts ensue. Of course, this type of scenario carries with it a whiff of deflation, which is probably what Fed is really worried about.

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