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Will the Utilities ETF Sector Keep Shining?

editor@etftrends.com (ETF Trends)

The Utilities Select Sector SPDR (XLU) settled lower yesterday, but that was after touching new highs and XLU, the largest utilities exchange traded fund, is still up more than 20% year-to-date. That makes XLU easily the best performer among the sector SPDR exchange traded funds. Importantly, utilities ETFs’ runs may not be over.

XLU and rivals such as the Vanguard Utilities ETF (VPU) and the Fidelity MSCI Utilities Index ETF (FUTY) are among this year’s best sector ETFs as 2016 has turned into a perfect storm for supposedly boring utilities stocks.

Related: Utilities ETFs Keep Rising

Investors are clearly favoring defensive, low beta sectors, such as consumer staples and utilities this year. That is one point in favor of ETFs like XLU. A second point that bodes well for more utilities upside is the Federal Reserve.

No sector is as negatively correlated to rising interest rates as utilities, meaning the longer the Fed resists raising interest rates, the longer high-yielding utilities stocks and ETFs remain compelling destinations for yield-starved investors. The release of the June Federal Open Market Committee (FOMC) meeting minutes on Wednesday indicates the Fed may not be able to boost borrowing costs at all this year and that is boon for XLU and friends.

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Once the Fed eventually hikes interest rates, the higher rates will make fixed-income instruments more attractive on a relative basis, and bond-like equities, like utilities, less enticing. Consequently, utilities may remain flat or underperform other segments of the equities market once rates start ticking higher.

“The US 10-year Treasury yield closed at an all-time low of 1.375 percent on Tuesday, and the 30-year yield hit a fresh record low of 2.098 percent on Wednesday morning. Uncertainty following the UK’s decision to leave the European Union may be one factor driving bond yields lower, but stimulative central bank policies amid stagnant global growth and moribund inflation are the primary catalyst for ultra-low rates,” reports CNBC.

Related: Best of Both Worlds With This Dividend ETF

Even frothy valuations on utilities are not deterring investors.

Goldman Sachs notes “that regulated utilities now trade at a forward price-to-earnings ratio in excess of the S&P 500 based on estimated 2017 and 2018 earnings. That ratio is also elevated relative to the sector’s five-year average,” reports Bloomberg.

Click here to read the full story on ETF Trends. Utilities Select Sector SPDR

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