Defensive sectors, such as consumer staples, telecom and utilities, often traded at multiples that are richer than the broader market. That is the price to pay to play defense. However, there are times when these sectors become expensive even relative to their historical norms.
The Utilities Select Sector SPDR (NYSEArca: XLU), the largest utilities exchange traded fund, is the top asset gatherer among the nine sector SPDR ETFs to start this year. Additionally, XLU and rival utilities ETFs have recently been among a small number of ETFs to consistently make new highs.
Utilities sector fundamentals remain strong. However, utilities have been underforming due to the sector’s inverse relationship to rising interest rates – when rates rise or investors fear higher rates, utilities typically underpeform, and vice versa.
Most investors view utilities as a reliable, income-generating asset that exhibit some bondlike characteristics. As interest rates declined, the sector appealed to many income investors for its relatively higher yields.
Still, investors should be leery of viewing the utilities sector as a value play.
“Big utility stocks trade at an average of 17 to 18 times projected 2016 earnings, which isn’t cheap considering annual industry earnings growth is generally in the low- to mid-single-digit range. The sector now trades at a premium to the S&P 500, which fetches about 16 times estimated 2016 operating earnings. The utilities ETF (ticker: XLU) yields 3.8%, compared with 2.2% for the S&P,” according to Barron’s.