Exchange traded funds (ETFs) not only offer the flexibility of stocks, but also protect investors from market turmoil. Utility ETFs are one of the safest investment options as they include utilities in their portfolio. Utilities are a safe bet given the regulated nature of their business that gives their revenues a high level of certainty. The predominantly domestic focus also shields utilities from foreign currency translation issues. All the utility ETFs discussed below have returned in excess of 21% year to date. (Read: Are Boring ETFs the Best Bet This Season?)
Though demand for utility services like electricity, gas and water varies with the swings of the economy, the fortunes of these companies don’t vary to the same extent as the economic cycle. After all, these companies providing basic services can never go out of business – this is their most basic fundamental strength. Their ability to boost shareholders’ value through consistent dividend payments makes them all the more attractive. The Dow Jones Utility Average (DJU) is up 24.1% year to date (till Jul 8, 2016) compared with the S&P 500 return of 4.2% over the same time frame.
The utility sector is presently at a crossroads after the release of the new emission standards by the U.S. Environmental Protection Agency. The finalized Clean Power Plan calls for CO2 reduction of 28% by 2025 and 32% by 2030, from 2005 levels. To meet the new emission standards, the industry needs more capital investments going forward. (Read: Is Donald the Trump Card for Gold ETFs?)
In this context, the Federal Reserve’s cautious monetary stance and its decision to keep the interest rate unchanged during the first half of 2016 will be beneficial for the utilities. Moreover, the Brexit referendum and the global financial turmoil in its wake might deter Fed officials to go for another rate hike later this year.
Earnings from utilities are expected to increase by 21.0% in the second quarter of 2016 on a 2.4% increase in the top line. In contrast, the S&P 500 is expected to suffer an earnings decline of 6.2% on 0.6% lower revenues.
Given the positive utility sector outlook, it is wise to focus on utility ETFs which will capture the benefits from individual utility stocks and pass them on to the investors.
ETFs to Tap the Sector
The services provided by the utilities are always in demand. The defensive nature of operations insulates these ETFs from market turbulence (see all utility ETFs here). Below, we have focused on the ETFs in the utility sector which primarily have a U.S. bias.
Utilities Select Sector SPDR (XLU)
XLU is one of the most popular and widely traded utility ETFs. The main purpose of this fund is to provide investment results that correspond to the performance of the Utilities Select Sector Index. The index includes communications services, electrical power providers and natural gas distributors. This fund has returned 21.4% (till Jul 8, 2016) year to date.
Launched on December 15, 1998, XLU has an asset base of nearly $8.9 billion. This fund holds 30 stocks and the top 10 companies occupy a 59.42% share of total net assets. The average daily volume (3 months) is 14,799,564 shares. The fund has a dividend yield of 3.12% and an expense ratio of 0.15%.
Among individual holdings, NextEra Energy Inc (NYSE:NEE)., Duke Energy Corporation (NYSE:DUK) and Southern Co., comprising 9.14%, 8.28% and 7.64%, respectively, of total net assets take up the top three spots.
Vanguard Utilities ETF (VPU)
This ETF aims to match the performance of the MSCI US Investable Market Utilities Index. The ETF was launched on January 15, 2004. Presently, this fund manages an asset base of $2.6 billion. This fund has returned 21.8% year to date (till Jul 8, 2016).
This fund holds 83 stocks and the top 10 companies form 48.21% of total net assets. The average daily volume (3 months) is 286,777 shares. The fund has a dividend yield of 2.92% and an expense ratio of 0.12%.
The top three individual holdings in the ETF include NextEra Energy Inc., Duke Energy Corporation and Southern Co. with asset allocation of 7.31%, 7.11% and 5.96%, respectively.
iShares Dow Jones US Utilities (IDU)
The fund seeks to match the performance and yield of the Dow Jones U.S. Utilities Sector Index. The ETF manages an asset base of $1.14 billion. Launched on June 11, 2000, IDU presently holds 58 companies. This fund has returned 21.5% year to date (till Jul 8, 2016).
The top 10 companies comprise 51.43% of total net assets. The average daily volume (3 months) is 224,836 shares. The fund has a dividend yield of 3.38% and an expense ratio of 0.43%.
NextEra Energy Inc., Duke Energy Corporation and Southern Co., comprising 7.83%, 7.69% and 6.55%, respectively, of total net assets, take up the top three spots.
Guggenheim S&P 500 Eq Weight Utilities (RYU)
The fund seeks to replicate the performance of the S&P 500 Equal Weighted Telecommunication Services and Utilities Sector Index. The ETF manages an asset base of $0.3 billion. This fund has returned 21.2% year to date (till Jul 8, 2016).
RYU debuted on October 31, 2006, and currently has 35 companies, with the top 10 holdings comprising 30.18% of total net assets. The average daily volume (3 months) is 42,612 shares. The fund has a dividend yield of 2.73% and an expense ratio of 0.40%.
The top three stocks are The AES Corporation (NYSE:AES), American Water Works Co. and CenturyLink Inc (NYSE:CTL). with asset allocation of 3.14%, 3.07% and 3.03%, respectively.
First Trust Utilities AlphaDEX (FXU)
FXU seeks investment results that correspond generally to the price and yield of the StrataQuant Utilities AlphaDex Index. Launched on May 7, 2007, the fund manages an asset base of $1.79 billion. The average daily volume (3 months) is 659,472 shares. This fund has returned 21.3% year to date (till Jul 8, 2016).
The product holds 39 stocks in total in its basket, with the top 10 companies comprising 40.14% of total net assets. The fund has a dividend yield of 2.66% and an expense ratio of 0.70%.
AT&T Inc., SCANA Corp. and Sprint Corp. are the top three holdings, with fund allocation of 4.43%, 4.33% and 4.18%, respectively.
Fidelity MSCI Utilities ETF (FUTY)
The ETF is linked to the MSCI USA IMI (LON:IMI) Utilities Index, which represents the performance of the utilities sector of the U.S. equity markets. Formed on October 21, 2013, the ETF has assets worth $0.28 billion. This fund has returned 21.2% year to date (till Jul 8, 2016).
The average daily volume (3 months) is 111,702 shares. It is spread across 81 companies with the top 10 holdings comprising 48.30% of total net assets. The fund has a dividend yield of 2.96% and an expense ratio of 0.12%.
NextEra Energy Inc., Duke Energy Corporation and Southern Co. are the top three stocks with asset allocation of 7.41%, 7.28% and 6.04%, respectively.
To Sum Up
The U.S. Energy Information Administration (EIA) has projected that retail electricity sales to the commercial sector will rise by 0.5% and 1.6% in 2016 and 2017, respectively. U.S. industrial sector sales are expected to remain flat in 2016 but increase by 1.5% in 2017. However, retail sales of electricity to the residential sector are expected to fall by 1.8% year over year in 2016 but increase by 2.1% in 2017.
The above data shows ample growth opportunities for utility operators. In addition, the prevailing low rate environment is conducive for the sector. In a climate of low rates, income starved investors look for sectors that provide steady dividends with attractive yields. Utility fits the bill perfectly and makes for good investment choices.
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SPDR-UTIL SELS (XLU): ETF Research Reports
VIPERS-UTIL (VPU): ETF Research Reports
ISHARS-US UTIL (IDU): ETF Research Reports
GUGG-SP5 EW UTL (RYU): ETF Research Reports
FT-UTIL ALPHA (FXU): ETF Research Reports
PWRSH-DW UTL MO (PUI): ETF Research Reports
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