Over the past few trading sessions, option activity has been picking up in defensive sectors and maybe signaling an early rotation. The concept of sector rotation is that the market will allocate capital in the area that is likely to outperform. If noncyclical parts of the market are starting to gain relative strength, it’s an indication of diminished expectations. As the market is testing new highs, this type of rotation could be a hint at the bullish fever beginning to break.

Sector Rotation in the New Age Economy

One of the most significant parts of top-down analysis is attempting to identify sector rotation. Many books that discuss sector rotation do so from a grand rotation over the course of the economic cycle. However, the point of monetary policy is to eliminate the business cycle. If you’ve been following the Federal Reserve machinations over the past 20 years, the measures taken have been escalating. Is this a “new economy” where cycles are gone, or is it similar to the new economy being pushed before the tech bubble?

While monetary stimulus measures have made the grand rotation from recession to expansion difficult to see, the rotation amongst the sectors in the intermediate term is still in effect. While the indications are developing, the recent performance of the Utilities sector and the recent option activity is starting to reveal the age of the rally since last March.

The strength in utilities is particularly interesting given the fact the 10-year Treasury yield has been rising (see chart below). Typically, a rising 10-year yield is negative for Utilities because of the focus on utility companies for their yield. At a minimum, it would indicate that they would be one of the worst performers instead of falling in the middle of the pack.

Sector Rotation Option Activity

 When identifying sector rotation, it can’t be one company showing strength or weakness, there needs to be a pattern. That means there needs to be some strength in the respective sector and a number of stocks moving in unison.

 The great thing about following unusual option activity is that it can give you a heads up on developing trends before it happens. That is why the activity I’m about to lay out is so intriguing. Here is a breakdown of the significant activity in defensive sectors over the past few days.

Tuesday

• PG&E Corp (NYSE: PCG)—Utilities
  • 15,000 18 JUN 21 $13 calls BOT in one print @ $1.03
  • 5,000 19 FEB 21 $12.50 calls BOT in one print @ $0.34
  • 30,000 18 JUN 21 $15 calls sold in one print @ $0.48

Wednesday

• Pilgrim’s Pride Corp (NASDAQ: PPC)—Consumer Staples
  • 2,400 19 FEB 21 $21 calls mostly BOT @ $0.40 to $0.65
• US Foods Holding Corp (NYSE: USFD)—Consumer Staples
  • 5,300 16 JUL 21 $40 calls mostly BOT @ $2.90 to $3.40
• Proctor & Gamble Co (NYSE: PG)—Consumer Staples
  • 4,515 29 JAN 21 $133 calls BOT in one print @ $0.81

Thursday

• Southern Co (NYSE: SO)—Utilities
  • 2,408 20 AUG 21 $70 calls BOT in one Print @ $0.75
• Kroger Co (NYSE: KR)—Consumer Staples
  • 7,000 22 JAN 21 $33.50 calls mostly BOT @ $0.11 to $0.22

Conclusion

The significance of the above activity is the potential rotation of bullish interest into defensive sectors like Consumer Staples and Utilities. These sectors haven’t exactly been leaders in the recent weeks. However, the breadth of the bullish option activity in these sectors is relatively unusual. They may provide an indication of where the money may be starting to go and a cautionary note for a potential market correction in the coming weeks.