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Selloff or Not, Utilities ETFs Should Stand Tall

Sanghamitra Saha
The U.S. economic growth in the first quarter breezed past expectations and marked the best first-quarter growth in four years. These ETF areas should gain from this momentum.

The broader market was in the red on Mar 22, thanks to renewed recessionary fears in the United States. A dovish Fed which issued downbeat outlook for the U.S. economy in the latest meeting, disappointing manufacturing data from the Euro zone, Brexit debacle, no concrete solution in the US-China trade deal and a slowing Chinese economy led to a severe stock market sell-off on Mar 22 and triggered a safe-haven rally.

Also, we believe overvaluation this year has been one of the reasons for the latest stock market rout. Even after considering Friday’s sell-off, SPDR S&P 500 ETF (SPY) has risen about 11.7% so far this year (as of Mar 22, 2019), calling for some imminent correction.

This is especially true given that stocks have become about 17% pricier in the last two months while profits are fading. Analysts’ earnings estimates for Q1 and Q2 of 2019 are moving south (read: Is Market Overvalued? 5 Cheap Top-Ranked ETFs to Play ).

However, though most of the sectors were in the red on Mar 22, Utilities managed to stay in the green during Friday’s sell-off.

Inside the Charm of Utilities ETFs

As the Fed issued weak economic guidance, long-term bond yields took a hit.Per Refinitiv Tradeweb data, the spread between the three-month Treasury bill and the 10-year note rate slipped into negative territory — though briefly — for the first time since 2007, per CNBC.com.

As long-term yields took a dive, utilities benefited a great deal being a rate-sensitive sector. This is because high-yielding utilities perform great in a low-rate environment. The sector requires huge infrastructure which places a massive debt burden and the resultant interest obligation on its operators.

This makes it an underperformer in a rising rate environment. The biggest utilities fund Utilities Select Sector SPDR Fund XLU currently yields 3.09% annually, which is way higher than the present benchmark treasury yield of 2.44% (as of Mar 22).

The benchmark 10-year U.S. Treasury yield, in fact, dropped to a 15-month low. Also, the sector is non-cyclical or recession-proof in nature. All these factors made Utilities a winner amid the recent sell-off. Investors should note that this safe-haven sector received a great boost from heightened trade tensions in 2018 (read: Top Sector ETFs of 2018).

Even if markets recoup, Utilities are likely to maintain strength. This is because the Fed is likely to remain extremely patient this year and rates are likely to be at the subdued levels. The central bank trimmed Federal funds rate projections for 2019 to 2.4% from 2.9%. The same for 2020 and 2021 was cut to 2.6% from 3.1% each (read: Go Long on Rate Sensitive Sectors With These ETFs).

Also, Brexit issues along with slowdown in the Euro zone and China will continue to cause occasional jitters in the market, benefiting safer ETFs like utilities. Even though the broader market staged an ascent this year (as evident from the 11.7% gains of the S&P 500), non-cyclical utilities funds returned almost in the same range from the year-to-date look.

Below we highlight a few utilities ETFs that are near a 52-week high (see all Utilities/Infrastructure ETFs here).

Utilities Select Sector SPDR ETF XLU — Up 0.7% on Mar 22; Up 18% past year

iShares US Utilities ETF IDU — Up 0.7% on Mar 22; Up 18.6% past year

John Hancock Multifactor Utilities ETF JHMU — Up 0.8% on Mar 22; Up 20.4% past year

Fidelity MSCI Utilities ETF FUTY — Up 0.6% on Mar 22; Up 18.8% past year

Vanguard Utilities ETF VPU — Up 0.6% on Mar 22; Up 18.7% past year

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Vanguard Utilities ETF (VPU): ETF Research Reports
Utilities Select Sector SPDR Fund (XLU): ETF Research Reports
iShares U.S. Utilities ETF (IDU): ETF Research Reports
Fidelity MSCI Utilities Index ETF (FUTY): ETF Research Reports
John Hancock Multifactor Utilities ETF (JHMU): ETF Research Reports
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