Is It Smart To Keep Vanguard Energy ETF Part Of Your Portfolio?

| About: Vanguard Energy (VDE)

The Vanguard Energy ETF (NYSEARCA:VDE) is currently one of the better performing exchange traded funds and one that investors can turn to now that it seems that the Fed may gradually be ending quantitative easing. The end of QR will cause interest rates to rise, which removes one of the main reasons for investing in an ETF, mainly the higher interest income an investor can get compared with other types of investments.

VDE is an ETF that is designed to track the performance of the MSCI US Investible Market Energy Index, which consists of stocks from companies of various sizes in the energy sector. These companies are involved in various activities in the energy sector ranging from exploration, production, refining and transport of oil and gas products to energy-related services such as the provision of drilling equipment and oil rigs.

VDE has net assets of $2.5 billion and a median market capitalization of $40 billion, as well as an expense ratio of 0.34%, making it one of the more affordable ETFs, compared with the average expense ratio of 0.44 percent. This means that you will pay some $3.30 in annual fees for every thousand dollars that you invest. The most recent closing price of the Fund is $112.41, up 20% from the closing level of $93.59 from the previous year. According to its annual report [pdf] for the fiscal year ended January 31, 2013, the Fund returned some 4% to its investors, slightly outpacing its benchmark index. Results were boosted by the rebound of natural gas and crude oil prices, which helped lift energy stocks. Another positive factor that helped boost the Fund is the unexpected increase in U.S. energy production as the greater economy shows signs of recovery.

Big-Ticket Energy Stocks

What analysts find attractive about VDE is the inclusion of big-ticket energy stocks in its holdings, which will help the fund withstand any downturns in the energy sector. The Fund has 128 stocks in its holdings and its top 10 holdings include companies like Exxon Mobile (NYSE: XOM) and Chevron (NYSE: CVX), the two biggest U.S. energy corporations. These big companies have diversified operations on many parts of the energy supply chain, which helps ameliorate the effect if a particular project should fail, i.e. if a drilling operation fails to find oil. In addition, since these companies may have operations in both refining and distribution, they are less exposed to factors such as falling energy prices.

Exxon and Chevron jointly make up some 35.6% of the Fund's total net assets as of the first quarter of 2013, and are among the highest ranked energy companies by analysts. The share prices of both companies are also performing well, with Exxon's current closing level of $89.80 up nearly 8% on a year-to-date basis while Chevron was higher by some 15 percent. According to S&P Capital IQ, which gave both stocks five-star ratings, the companies both have strong upstream project portfolios (the upstream sector includes production and exploration activities) as well as downstream operations (refining, marketing and distribution).

The third largest stock holding in VDE's portfolio is Schlumberger (NYSE: SLB), which accounts for 5.7% of total net assets. Schlumberger is the largest provider of technology, information solutions and project management to clients in the oil and gas industry. The current closing price of its stock is $71.81, representing a nearly 17% increase over the past year. SLB has revenues of $42.90 billion as of the quarter ended March 31, 2013, and a market capitalization of $95.47 billion.

The Bottom Line

The U.S. is currently in the midst of an energy boom, which can boost energy stocks. The Department of Energy is currently fielding applications to export natural gas, and has currently approved two of them. There is every indication that the DOE will speed up the approval process in the wake of increased U.S. production coupled with booming demand overseas. All three of the companies that are heavily overweighted in VDE are expected to benefit greatly from the energy boom, Schlumberger because of its billion dollar research and development budget, which allows it to find new ways to exploit energy resources, and Chevron and Exxon because these companies are big enough to withstand government or regulatory interference with their operations.

If the energy boom is sustainable in the long term, it also bodes well for investors who intend to hold on to their VDE shares long term. In its performance summary for the fiscal year ended January 31, 2013, the company reported that investors who had held on to their shares for a 10-year period (from 2003 to 2013) enjoyed a final value of $42,114 on their initial investment of $10,000, or an average annual total return of 15.46% over the 10-year period, which is higher than the average of the Spliced Energy Index and the Global Natural Resources Funds.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

About this article:

Author payment: $35 + $0.01/page view. Authors of PRO articles receive a minimum guaranteed payment of $150-500. Become a contributor »
Problem with this article? Please tell us. Disagree with this article? .