Utility stocks provide important defensive capability for the portfolio. The sector has a lower volatility versus the broader market which can act as anchor the portfolio. Another feature of utilities is its strong dividend yield which can be extremely attractive under current low rate environment.
Utility ETF which is even more diversified and tracks a group of utility stocks is one of the easiest and efficient means for investors to gain exposure to the sector.
Utilities ETF List
|XLU||SPDR Utilities Select Sector Fund|
|VPU||Vanguard Utilities ETF|
|IGF||iShares S&P Global Infrastructure Index Fund|
|IDU||iShares Dow Jones US Utilities Sector Index Fund|
|FXU||First Trust Utilities AlphaDEX Fund|
|RYU||Guggenheim S&P 500 Equal Weight Utilities ETF|
|JXI||iShares S&P Global Utilities Index Fund|
|FUTY||Fidelity MSCI Utilities Index ETF|
Best Utility ETF
Vanguard Utilities ETF (VPU) similar to XLU is a low cost passive index fund. Unlike XLUE however it is more diversified with more than 80 holdings. VPU a pure passive replication Utility ETF does not take active decision in the portfolio construction. The benchmark VPU track is the Spliced US IMI Utilities 25/50 Index.
Chart below highlights more than 50% of the ETF consist of electric utilities followed by Multi utilities.
Interestingly even as the fund consist of more than 70 positions. Top 10 position of the fund account for around 45% of the ETF. Thus VPU unmistakably has a large cap bias. List of Top 10 position shows whos who of listed utility sector.
|1||Duke Energy Corp.|
|2||NextEra Energy Inc.|
|3||Dominion Resources Inc.|
|6||American Electric Power Co. Inc.|
|10||Public Service Enterprise Group Inc.|
Defensiveness of VPU can be seen from the correlation with the broader market index like the S&P 500. By regressing the returns of VPU with SPY, it has a beta of 0.3 and R squared of close to zero. Hence the advantage of Vanguard Utility ETF is the uncorrelated nature of the returns relative to the market. By holding Utility ETF, it provides genuine diversification.
VPU fee being a standard index fund vanguard product lives up to the firms reputation. The annual cost of holding the ETF is just 0.12%. Over the long run fees will have a significant impact on investment returns. VPU fee structure is as low as it gets.
Alternative Utilities ETF
Investors looking to allocate portion of portfolio should know that not all utility ETFs are created equal. SPDR Utilities Select Sector Fund (XLU) can be considered a traditional low cost utility index fund.
It tracks the 30 stocks in the S&P Utilities Select Sector Index which includes the largest listed utility stocks on the US market. XLU has a primary exposure to domestic utility stocks with an average annual EPS growth of around 5%. The weights of stocks in the index is determined by thieir size, therefore the larger the company, the greater weight it has in index.
Guggenheim S&P 500 Equal Weight Utilities ETF (RYU) provides a twist to traditional index investing by allocate weight of stocks in the fund on an equal basis. This means periodically, the weights of all stocks in the ETF is rebalanced to equal each other. The aim is to eliminate risk of the larger stocks dragging the overall performance of the exchange traded fund.
RYU ETF utility exposure can be further subdivided into segment below. One difference RYU has from XLU is that it has non-energy utility stocks in the ETF.
|Sector / Industry||% of Fund|
|Multi – Utilities||39%|
|Diversified Telecommunication Services||18%|
|Independent Power and Renewable Electricity Producers||5%|
First Trust Utilities AlphaDEX Fund (FXU) is another smart beta utility ETF. It uses a proprietary quantity method based on pre set fundamental factors in selecting the best utilities to be included in the exchange traded fund.
Best Utility Fundamental Factors
- 3, 6 and 12 month price appreciation
- sale / price ratio
- 1 year sales growth rate
- price / book
- cash flow / price
- Return on Assets (ROA)
FXU ranks stock in the Russell 1000 based on the factor above and allocate fund weight to the best 75% of the stock on the list.
For investors with a bias towards the Dow Jones Family Indexes and associated Dow ETFs. iShares Dow Jones US Utilities Sector Index Fund (IDU) follows one of the oldest indexes there is, the Dow Jones US Utilities Index. It is one of the most diversified utility ETF from the list where it has over 60 stocks in the fund.
International Utility ETF
The above Utilities ETFs largely focused on the US utility sector. iShares S&P Global Utilities Index Fund (JXI) provides international utilities exposure for investors that have higher risk tolerance.
Chart below shows JXI retains a large exposure to United States. UK and Europe account for remaining significant regional exposure with Asia represented by Hong Kong, Japan and Australia for the remaining portion of the utility portfolio.
Risks investing utilities ETF
Utility investors should be aware of some specific sector risk for the sector. Although utility ETFs are primarily known as a low volatility exposure. They are sensitive to changes in interest rates and regulatory risks.
Interest rate risk occur in utilities through the debt these companies hold on the balance sheet. Because it is known to have steady income, management has a tendency to increase return through higher level of debt. After all one of the largest bankruptcy was a utility purchase by private equity funds at the peak of the credit bubble in 2007. Investors should monitor debt levels over time to ensure that equity in the company is managed prudently.
Most utilities are natural monopolies, its returns are set by the state regulator. Hence it is crucial that they have a good working relationship and constructive in working with regulators in setting level of return. Subjectively its reputation and corporate brand can come into play. Any scandals is a sure sign of greater regulatory scrutiny. This is not good for its equity long run return.
Utility Sector Exposure
For investors that want utility stock exposure. Below is a list of Utility stocks sorted by market capitalization.
|Utility Stock List|
|Duke Energy Corp.|
|NextEra Energy Inc.|
|Dominion Resources Inc./VA|
|American Electric Power Co. Inc.|
|Public Service Enterprise Group Inc.|
|Consolidated Edison Inc.|
|Xcel Energy Inc.|
|DTE Energy Co.|
|Wisconsin Energy Corp.|
|CMS Energy Corp.|
|American Water Works Co. Inc.|
|CenterPoint Energy Inc.|
|NRG Energy Inc.|
|Pinnacle West Capital Corp.|
|Alliant Energy Corp.|
|Pepco Holdings Inc.|
|OGE Energy Corp.|
|ITC Holdings Corp.|
|Integrys Energy Group Inc.|
|AGL Resources Inc.|
|Atmos Energy Corp.|
|Westar Energy Inc. Class A|
|Aqua America Inc.|
|National Fuel Gas Co.|
|TECO Energy Inc.|
|MDU Resources Group Inc.|
|Great Plains Energy Inc.|
|Hawaiian Electric Industries Inc.|
|Piedmont Natural Gas Co. Inc.|
|Portland General Electric Co.|
|UIL Holdings Corp.|
|Southwest Gas Corp.|
|WGL Holdings Inc.|
|New Jersey Resources Corp.|
|PNM Resources Inc.|
|Black Hills Corp.|
|Laclede Group Inc.|
|ONE Gas Inc.|
|South Jersey Industries Inc.|
|NRG Yield Inc. Class A|
|American States Water Co.|
|El Paso Electric Co.|
|MGE Energy Inc.|
|Pattern Energy Group Inc. Class A|
|Northwest Natural Gas Co.|
|Ormat Technologies Inc.|
|California Water Service Group|
|Empire District Electric Co.|
|Otter Tail Corp.|
|NextEra Energy Partners LP|
|Chesapeake Utilities Corp.|
|Connecticut Water Service Inc.|
|Middlesex Water Co.|