Lagging sector looks poised for a rebound. Here's how Mike Khouw is trading it

• The Communications Services sector includes diverse companies like Meta, Alphabet, Verizon, AT&T, and Netflix, creating an internally 'incoherent' but potentially advantageous diversified basket with low volatility
• Khouw's trade strategy involves a January 105/115/125 call spread risk reversal on XLC: selling the $105 put (recent support level), buying the $115 call (current price), and selling $125 calls to capture potential upside to new highs
• XLC has bounced off the $105 level twice in recent months, establishing a technical support level that forms the basis for the options trade structure

Summary

Key Sector Development:

The Communication Services sector, which has underperformed the S&P 500 by over 14% year-to-date, is showing signs of recovery. In the current quarter, the sector has generated nearly 6.5% total returns, outperforming the S&P 500 by more than 5%.

Sector Composition:

Communication Services is described as the "most peculiar and internally incoherent sector," including companies with vastly different business models:

• Tech giants: Meta and Alphabet (digital advertising, AI, cloud services)
• Telecom operators: AT&T, Verizon, T-Mobile (regulated, capital-intensive networks)
• Entertainment: Disney, Netflix, Warner Bros Discovery

Trading Strategy:

Options trader Mike Khouw recommends a January 105/115/125 call spread risk reversal on XLC (State Street Communication Sector ETF):

• Sell $105 strike put (support level where XLC bounced twice recently)
• Buy $115 call (current price level)
• Sell $125 call (allowing room for new highs)

Market Implications:

Despite its diverse composition creating internal inconsistency, the sector's heterogeneity provides diversification benefits and relatively low volatility. The recent technical support at $105 and improving relative performance suggest potential for continued recovery, particularly as the broader S&P 500 has been "treading water" this quarter.

Current Price: XLC trading at $113.96 (down 0.06% at time of article)