Utilities ETFs have been an investor favorite in recent years for dividends and safety although the sector could face hard times if interest rates rise further.
Investment researcher Morningstar says its favorite ETF covering the industry for contrarian investors is Utilities Select Sector SPDR (NYSEArca: XLU).
The utilities sector has taken a hit recently on rising Treasury yields and is slightly overvalued but could outperform if rates level off or decline, says Morningstar ETF analyst Robert Goldsborough. [Utilities ETFs Have Recovered Almost All of May/June Swoon]
XLU is up about 15% year to date to lag the S&P 500. The nearly $6 billion sector ETF charges an expense ratio of 0.18% and is currently paying a 30-day SEC yield of 3.73%, according to manager State Street Global Advisors.
Investors have treated utilities stocks “almost as a hybrid between bonds and stocks–they can’t offer the same growth as equities, but nonetheless they are very stable and very appealing because of their dividend yields,” Goldsborough notes. “Since interest rates began their secular decline in 2000, utilities have produced nearly double the S&P 500 Index’s total return.”
However, the sector is currently facing an inflection point.
“At the start of May 2013, utilities companies’ stock prices went into a tailspin and utility company valuations compressed as investors began to become spooked about sharply higher Treasury rates,” the Morningstar analyst said. “Utilities have a long history of underperforming the broader market when interest rates rise.”
Utilities Select Sector SPDR
The opinions and forecasts expressed herein are solely those of John Spence, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.