Bank of America has reshuffled its sector outlooks, raising Utilities to "overweight" while downgrading Energy to "market-weight."
The changes come as elevated volatility and policy uncertainty drive a recalibration of investment strategies. According to Savita Subramanian, Bank of America's head of U.S. equity strategy, the shifting economic and political landscape has altered the risk-reward profiles of these key sectors.
Utilities: Defensive Hedge With Growth Potential
Subramanian argues that Utilities, as tracked by the Utilities Select Sector SPDR Fund (NYSE: XLU), long regarded as a defensive sector, have become increasingly attractive in the current rate environment.
As economic uncertainty persists, utilities offer stable fundamentals and a built-in defensive hedge against inflation.
One of the core factors behind the Bank of America's upgrade is their higher dividend yield, which has become more appealing given the revised outlook for interest rates.
Bank of America economists now predict terminal interest rates will reach 3.25% by 2025, lower than previous expectations, and this environment is favorable for income-generating assets like utilities.
Further boosting the outlook for utilities is their exposure to artificial intelligence (AI) technologies. As companies in the sector begin to integrate AI for efficiency and operational improvements, there could be longer-term growth opportunities that hadn't been factored in before, the analyst says.
Utilities are now benefiting from AI in ways that enhance productivity, making them not just a defensive play but also an indirect AI beneficiary, she adds.
Energy: From Value To Value Trap?
In contrast, Bank of America's downgrade of the Energy sector, as tracked by the Energy Select Sector SPDR Fund (NYSE: XLE), comes amid concerns over political risk and weakening fundamentals.
Although energy companies have improved in terms of quality and discipline compared to prior cycles, the sector faces rising uncertainty that could undermine its stability.
Subramanian warns that the supply discipline that has supported oil prices could start to unravel if the political environment changes. This coincides with Bank of America's commodity strategists lowering their oil price forecasts, casting doubt on the sector's growth prospects.
"Energy stocks might look cheap, but they could be 'cheap for a reason,'" she notes.
One of the most worrying signals is the sector's earnings revisions: Energy now holds the "most negative earnings revision ratio of all sectors," indicating that analysts are increasingly pessimistic about future earnings growth.
Moreover, Energy's strong performance in recent years could turn into a liability if the political winds shift. Regulatory pressures, including potential changes in drilling policies and climate regulations, are key risks that could weigh heavily on the sector's outlook.
Avoiding The Tech Dip: Underweight Information Technology
Bank of America remains cautious on the beaten-down Information Technology sector, maintaining its "underweight" rating, despite arguments that the recent selloff has created a buying opportunity.
Subramanian highlights that Tech stocks still trade at record valuations, particularly in terms of enterprise value to sales (EV/Sales), making the sector vulnerable to further downside.
"Technology is cyclical, not secular," Subramanian asserts, meaning that its performance is closely tied to broader economic trends, not immune to them as some investors might hope.
Another concern is the upcoming changes in Standard & Poor's index cap rules, which are likely to impact the largest Tech names. These changes could introduce concentration risk, leading to passive selling that could pressure some of the sector's mega-cap stocks.