The Energy Select Sector SPDR (NYSEArca: XLE), the largest equity-based energy exchange traded fund, is higher by more than 18% year-to-date, but that does not mean there is a ceiling on potential upside for equities and ETFs hailing from the energy patch.
In fact, some market observers argue that the once downtrodden energy sector offers more upside as some of the group’s more controversial names start participating in the rebound. Rivals to XLE include the Vanguard Energy ETF (NYSEArca: VDE), iShares U.S. Energy ETF (NYSEArca: IYE) and the Fidelity MSCI Energy Index ETF (NYSEArca: FENY).
Investors should be aware that XLE and its aforementioned rivals allocated hefty portions of their lineups to the largest oil companies, including Dow components Exxon Mobil (NYSE: XOM) and Chevron (NYSE: CVX) along with Schlumberger (NYSE: SLB), the largest oilfield services provider. In some cases Exxon Mobil and Chevron, the two largest U.S. oil companies, combine for up to a third of these ETFs’ weights.
SEE MORE: 4 Energy ETFs may be at Near-Term Tops
Integrated oil stocks have refining exposure, a segment that benefits when oil prices are low due to improved margins. That can help steady diversified energy ETFs like XLE because these are not dedicated exploration and production funds.
“The energy sector, however, has been getting pummeled so hard for so long that this year’s gains might be the beginning of a multiyear run. With valuations starting to look reasonable, and higher oil prices a possibility, opportunity still exists for investors who missed the initial rally,” reports Ben Levisohn for Barron’s.
[related_stories]The energy sector is just one of two S&P 500 sectors that currently trades at a noticeable discount to its long-term averages. Additionally, the energy sector is usually among one of the largest sector weights in value ETFs, underscoring the point that the group is attractively valued relative to some defensive sectors, which trade at lofty multiples.
Still, making the sector’s rebound this year all the more impressive is that it comes against the backdrop of still low oil prices, little help in the way of significant production cuts and massive spending reductions by global oil majors.
Related: Why Investors are Bearish on Oil ETFs
“First, valuations are starting to look more attractive. Yes, oil stocks still trade at about 40 times forward earnings expectations, but that number is based on very depressed earnings, says Merrill Lynch strategist Dan Suzuki. Earnings estimates are starting to rise. In July, nearly twice as many oil companies saw Wall Street analysts revise their earnings estimates higher rather than lower, the highest ratio in at least five years—and those revisions should continue as oil stabilizes and moves higher,” according to Barron’s.
For more information on Energy ETFs, visit our Energy category.
Energy Select Sector SPDR
