The Sector Script is Shifting
- We are more than halfway through the Q3 earnings season, and the sector script has shifted meaningfully since last month. The reflationary environment in the U.S. is still constructive for equities, but investors are placing greater emphasis on earnings quality and cash-flow delivery.
- The script has reversed for Technology as the AI trade enters a more demanding phase. The sector continues to support index-level earnings growth, but Q3 earnings have confirmed that strong AI demand is no longer enough on its own. Investors are increasingly focused on whether heavy capital spending can generate revenue, margins and free cash flow. The structural growth outlook remains compelling, but higher yields and greater scrutiny of AI returns leave less room for disappointment.
- The Health Care sector has followed the defensive-growth script. October’s rally was backed by strong Q3 positive earnings surprises. More importantly, the sector also offers a source of growth that is less dependent on the AI capital-spending theme. Recent performance has lifted valuations relative to its 10-year average but improving fundamentals and meaningful diversification benefits keep us constructive.
- Utilities have broken from the old rate-sensitive playbook. The sector performed strongly in October despite elevated yields, suggesting investors are looking beyond its traditional role as a bond proxy. Rising electricity demand from data centres has added a growth component to its defensive earnings profile. But that growth comes with heavy capital requirements. With funding costs still elevated and cash-flow expectations still weak, we remain cautious about chasing the rally.
- Financials continue to follow the economic-resilience script. Q3 earnings have been supported by healthy capital-markets activity and continued growth in wealth management, while the sector still trades at a modest discount to the broader market. As long as economic resilience prevents a material deterioration in credit quality, we remain constructive.
- Elsewhere, the case for selectivity is even stronger. Energy offers a more attractive combination of earnings revisions and valuation, but sensitivity to geopolitical headlines keeps us neutral. Consumer staples also rallied despite softer earnings momentum and richer valuations, while communication services sector continues to face earnings pressure.
- All said, the broader equity backdrop remains constructive, but the bar is getting higher. We acknowledge that the U.S. midterms may add short-term volatility, but they do not alter our sector framework.
- For the portfolio: We are making the following changes:
- Tech: Our position has changed from neutral to underweight.
- Financials: Our position is still overweight, but weight is slightly higher than last month to be in line with the index.
- Health Care: Our position is still overweight, but weight is higher than last month.
- Communication Services: Our position is still underweight, but weight is lower than last month.
- Industrials: Our position is still neutral, but weight is higher than last month.
Benchmark is the S&P 500 Index.
Sectors in focus:
Health Care (BMO SPDR Health Care Select Sector Index ETF – ZXLV)
Financials (BMO SPDR Consumer Financials Select Sector Index ETF - ZXLF)
Technology (BMO SPDR Technology Select Sector Index ETF – ZXLK)
Utilities (BMO SPDR Utilities Select Sector Index ETF – ZXLU)
Please see Chart 5 below for the monthly performance and refer to Chart 6 for the monthly tactical changes in the model BMO Sector Model Portfolio.
Chart 1 – Sector Total Performance Chart
Chart 2 – Forward Cash Flow from Operations (CFO) Growth – Next 12m
Chart 3 – Earnings and Valuation
Table 4 – Earnings and Valuation Relative to History
Chart 5 – BMO Sector Model Portfolio Performance in 2026
Chart 6 – BMO Sector ETF Portfolio for November 2026
Chart 7 – BMO Sector ETF Portfolio Weights Relative to S&P 500
Chart 8 – Sector Returns
Chart 9 – Seasonality Chart (Avg Rank Over Past 35 Years)
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