The Chicago Fed National Activity Index and Sector Rotation: Why Electric Utilities Shine in Downturns

The Chicago Fed National Activity Index (CFNAI) has long served as a barometer for U.S. economic health, offering insights into cyclical trends and investor sentiment. In July 2025, the index posted a reading of +0.12, signaling a modest rebound from June's -0.33. While this suggests a temporary stabilization in economic activity, the broader narrative remains one of volatility. For investors, the CFNAI's recent fluctuations—and its historical patterns during weak readings—highlight critical lessons about sector rotation and the divergent performance of the Electric Utilities sector.

The CFNAI as a Recession Bellwether

The CFNAI's three-month moving average (CFNAI-MA3) is a key indicator for gauging recession risk. A value below -0.7 after a period of expansion historically signals an elevated likelihood of a downturn. In 2025, the index's recent trajectory has been shaped by a cocktail of macroeconomic headwinds: Trump-era tariffs, inflationary pressures, and a cooling consumer market. The March University of Michigan Consumer Sentiment Index hit a 32-month low of 57.0, underscoring waning confidence. Meanwhile, the Fed's Core PCE inflation reading—sticking stubbornly above expectations—has further muddied the waters for equities.

Electric Utilities: The Unlikely Outperformers

Amid this backdrop, the Electric Utilities sector has emerged as a rare bright spot. Historical data reveals a compelling pattern: during periods when the CFNAI-MA3 dips below -0.7, utilities consistently outperform the broader market. This resilience stems from the sector's defensive characteristics—inelastic demand for energy, stable cash flows, and a critical role in the economy.

Consider the 2008–2009 financial crisis. While the S&P 500 plummeted by over 40%, the Electric Utilities sector declined by just 10%–15%. Similarly, during the 2020 pandemic-induced recession, utilities not only avoided steep declines but grew by 3%–5%, driven by surging residential energy use and renewable infrastructure investments. These trends underscore the sector's ability to weather economic storms while maintaining earnings stability.

In 2025, the sector faces new challenges. Trump's 25% tariff on imported automobiles and 55% tariff on Chinese goods have inflated costs for grid components and battery storage. Yet, these pressures have also accelerated nearshoring and innovation. U.S. energy storage buyers are pivoting to South Korea and Vietnam, while AI firms like Meta and Microsoft are investing in domestic data centers—projects that demand robust energy infrastructure. The Trump administration's AI Action Plan, though still nascent, hints at future investments in grid modernization and next-gen battery tech, which could unlock long-term growth.

Sector Rotation Strategies: Myths and Realities

The allure of sector rotation—shifting investments to align with business cycle stages—has persisted for decades. However, empirical studies challenge its efficacy. A 2023 analysis of 15 business cycles (1948–2022) found that even with perfect foresight, sector rotation strategies generated marginal returns (0.16% per month pre-costs) during weak CFNAI periods. Transaction costs further eroded these gains, rendering the strategies largely unprofitable.

Yet, the Electric Utilities sector defies this pattern. Unlike cyclical industries, utilities' performance during downturns is less tied to market timing and more to structural demand drivers. The electrification of transportation, AI-driven data center growth, and renewable energy mandates are expected to drive 6%–8% annual power consumption growth through 2035. These trends, combined with the sector's defensive traits, make utilities a compelling case for long-term portfolio protection.

Investment Implications

For investors, the key takeaway is clear: in an era of economic uncertainty, the Electric Utilities sector offers a rare combination of resilience and growth potential. While sector rotation strategies often fail to deliver consistent returns, utilities have historically outperformed during CFNAI-MA3 < -0.7 periods. This makes them an attractive hedge against volatility, particularly as inflationary pressures persist and policy shifts create regulatory uncertainty.

However, caution is warranted. The sector is not immune to macro risks—tariffs, interest rate fluctuations, and geopolitical tensions could disrupt near-term earnings. Investors should prioritize companies with strong balance sheets, diversified energy portfolios, and exposure to emerging technologies like grid storage and smart infrastructure.

Conclusion

The Chicago Fed National Activity Index serves as both a cautionary tale and a roadmap. Its recent readings highlight the fragility of economic recovery, while historical data on the Electric Utilities sector reveals a path forward. As markets grapple with the intersection of policy, technology, and inflation, investors who recognize the sector's unique position will be well-positioned to navigate the turbulence ahead.

In the end, the lesson is simple: when the economy stumbles, the lights keep shining—and for savvy investors, that's a signal worth heeding.