Utilities are the high fliers of 2014. The sector is up 15% not including dividend payments year-to-date, an outstanding performance for this boring, unfollowed sector. Yesterday, the utility etf XLU broke out to a new 5 year high on its largest volume day of the past year:
The sector’s breakout on huge volume is obviously noteworthy, but it has additional significance in my eyes for two reasons.
First, XLU remains the best-performing sector in the broader market after yesterday’s move. The XLU/SPY ratio remains in a short-term uptrend since the end of 2013. However, the long-term downtrend since the stock market’s bottom in early 2009 remains intact:
Second, XLU is now only 2% away from a new all-time high. The December 2007 high is $44.66, shown here on the monthly chart:
The rally in utilities has been partly driven in 2014 by the downtrend in long-term rates, which continued yesterday after a relatively dovish FOMC day. Some of the rally is also likely due to more defensive posturing by portfolio managers given the weak growth figures in the first quarter. Regardless, whatever the reason, XLU looks on the verge of a long-term breakout.
In this context, and with yesterday’s high volume, I expected to see implied volatility jump in XLU when I took a look yesterday as the sector rallied. However, XLU 30 day implied vol is relatively low, especially when compared to 10 day realized volatility:
XLU implied volatility can indeed fall below 10, as it did in early 2013. However, at that time, XLU realized volatility was much lower. Also, the sector was not on the verge of a major breakout.
Having said all that, a breakout is not a breakout until it actually happens. XLU could get rejected near the 2007 in the coming weeks, and the sector might just fizzle as opposed to pop. But the setup looks interesting, especially with options relatively cheap, and a breakout fever gripping the market overall. Perhaps the boring leader might be next.