- SPDR, largest utilities ETF, is up nearly 7% this year
- Utilities have been under-performing due to rising interest rates
- Big utility stocks trade at an average of 17 to 18 times projected 2016 earnings
- Mark Newton, of Newton Advisors, says he ‘expects the rally in utilities to extend’
The Utilities Select Sector SPDR (NYSEArca: XLU), the largest utilities exchange traded fund, is up nearly 7% this year, good for one of the best performances among major sector exchange traded funds. Although the utilities sector is viewed by some as richly valued, investors may not want to bet against XLU and rival utilities ETFs.
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 bond-like 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.
While XLU and rival utilities ETFs do not scream “value,” the good news is the charts for the group could be saying more gains are on the way.
“According to Mark Newton of Newton Advisors, the XLU recently broke above a downtrend in place since the start of 2015. That move coincided with increased uncertainty regarding interest rates. He expects the rally in utilities to extend,” reports Yahoo Finance.
Some investors see opportunity with rate-sensitive assets such as XLU and real estate ETFs, noting that 10-year yields are overbought and sentiment against the likes of XLU is at bearish extremes, which could create opportunity from the long side with the utilities sector. [Rethinking Rate Sensitive ETFs]
Treasury yields rise and the utilities sector falls. With market participants pricing in an interest rate hike from the Federal Reserve, perhaps as soon as this month, the rising yields/slumping utilities sector scenario is playing out. [Crunch Time for Rate-Sensitive ETFs]
“Given that we continue to be in an environment where yields are dropping, continued amounts of confusion with central bank policy, and overall volatility in the stock market, this still looks like an excellent sector to overweight in thinking that additional outperformance should happen in the months ahead,” Newton told Yahoo Finance.
Utilities Select Sector SPDR
