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Energy sector has potential for Q4 2023: Strategist

The Federal Reserve's primary tool to gauge inflation core PCE indicated cooling inflation in the month of August. Investors are paying close attention to how the market is digesting the economic data today, looking to the energy sector in particular. LPL Financial Chief Technical Strategist Adam Turnquist joins Yahoo Finance to break down the energy sector's performance and how it ties back to August's PCE index.

Turnquist attributes energy's overall performance — outperforming the S&P 500 (^GSPC) in recent months — to why his company upgraded the sector: "It trades relatively cheap to the market, so if you're looking for some value it has a dividend yield."

For more expert insight and the latest market action, click here to watch this full episode of Yahoo Finance Live.

Video transcript

- Well, the Fed's preferred inflation gauge core PCE headed lower in August, signaling progress on the Fed's fight against inflation and it's a welcome indicator for investors bracing for a prolonged period of higher rates. Joining me now is Adam Turnquist, LPL Financial chief technical strategist.

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Adam, it's good to talk to you today. As our Jen Schonberger said before the break, you know, this is kind of the gauge that the Fed looks for, particularly because it does a good job of tracking where consumer behavior is headed. How much of this moderation that we saw, at least in this print do you attribute to the Fed's action?

ADAM TURNQUIST: I think there's lingering effects of the rate hikes are finally kicking into gear. You can see the progress that we've made with inflation here. If you go back even last year, a year ago looking at core PCE, you were at 5 and 1/2%. Clearly the trend here with inflation is the Fed's friend right now coming in below 4% today, obviously the market is welcoming that news as well. You can see a pretty big advance here off a key support level for the S&P 500. So I guess maybe a positive way to wrap up a pretty negative month overall for the S&P 500.

- Yeah. That's an important thing to note here given the choppy September that we've had. You know, we're talking about core PCE, which is what the Fed looks at, but if you add in what happened with energy as well as food, we're talking a huge acceleration, energy costs rising more than 6% at least in the month. How big of a concern is that for you when you think about the overall trajectory of the central bank?

ADAM TURNQUIST: Yeah, I think the overall move we've seen in energy looking at WTI crude oil rallying north of $90 a barrel now certainly weighs on that headline data the Fed has told us they look past that energy component. But you know, as a consumer, we can't really look past it. It's something we pay for, whether it's in travel, whether it's when we fill up our gas tanks. So that's a real inflation that takes away from consumer spending, and we did see some of that data today as well.

We had the revisions in the GDP print that were drastically dropped on Thursday and then today's personal spending also lower. So that's starting to weigh, I think, as we look at the impact on inflation and those rate hikes as well weighing on the consumer.

- Looking at where sectors are trading today, energy, one of the big laggards but, of course, we've seen a significant run up in those stocks because of oil inching closer to that $100 a barrel mark. How are you trading on that right now?

ADAM TURNQUIST: So we like energy at the sector level. We actually upgraded energy from a neutral to positive earlier this month and for several reasons. First, just look at the energy components, those commodity components. And you can see WTI, again, breaking out from this bottom that's been forming for almost a year. Supply-demand dynamics there look constructive as well. So we think the path of least resistance for crude oil is higher.

And then when you look at the sector overall, that's also starting to show some relative strength. And you can see it's outperforming over the last few months with the S&P 500. What's unique about energy, one, at the sector level, it trades relatively cheap to the market. So if you're looking for some value, it also has a dividend yield, and it's also powered by this expansion in breadth. So there's a lot of stocks participating in this rally. There's no magnificent seven within the energy sector. This is a broad-based buying pressure across the sector.

- Even with that said though, where would you advise clients to put their money? Are you looking at the oil majors? Are you looking at other players? Where in the energy sector do you think has the most value?

ADAM TURNQUIST: Good question. We like the E&P space within energy. We think that has a little bit more runway. It's showing better relative strength, of course. There's a good dividend yield there to put up really good free cash flows as well. Oil services is another spot within the energy space that's doing well. That's really been outperforming. However, we like the E&Ps probably as a favorite.