U.S. Oil & Gas Equipment & Services
iShares Dow Jones U.S. Oil Equipment & Services Index Fund (IEZ) – This fund, launched in May 2006, has $500 million in assets under management. This fund has an expense fee of 0.47%. The fund tracks the Dow Jones U.S. Select Oil Equipment & Services Index, which is a market-cap weighted index that currently holds 44 U.S.-listed stocks. The top five holdings are Schlumberger (SLB) (16.93%), Halliburton (HAL) (8.54%), National Oilwell Varco (NOV) (7.62%), Baker Hughes (BHI) (6.94%), and Weatherford (WFT) (5.24%).
SPDR S&P Oil & Gas Equipment & Services ETF (XES) – This fund, launched in June 2006, has $460 million in assets under management. The fund has a fee of 0.35%. The fund tracks the S&P Oil & Gas Equipment & Services Select Industry Index. The fund has a 63.80% weight on the Oil & Gas Equipment & Services sub-industry and a 36.20% weight on the Oil & Gas Drilling sub-industry. The index is an equal-weighted index that holds 26 U.S.-listed stocks, which means each stock has a weight of about 3.8% after the quarterly rebalancing.
PowerShares Dynamic Oil & Gas Services Portfolio (PXJ) – This fund, launched in October 2005, has $208 million in assets under management. The fund has an expense fee of 0.63%. The fund tracks the Oil & Gas Services Intellidex Index, which is a stock selection and weighting method that takes into account 25 factors that measure company fundamentals, stock valuation, timeliness, and risk.
Investment Conclusion - Our “Best in Class” choice for this ETF group is the SPDR S&P Oil & Gas Equipment & Services ETF (XES) for the following reasons: (1) XES is an equally-weighted index, which means it puts a higher weight on smaller-cap stocks that may have a better potential to perform and avoids the situation in a market-cap weighted index where a few large-cap stocks dominate the index, (2) XES has a fee of 0.35% versus 0.47% for IEZ, and (3) XES has outperformed both IEZ and PXJ in the past two years, as seen in Figure 6.
Figure 6: Oil & Gas Equipment & Services ETF Comparison
U.S. Energy – Leveraged Long and Short ETFs
Leveraged Long Energy ETFs
There are two ETFs that provide leveraged exposure to the energy sector, as listed below. These products can be appropriate as trading or investment vehicles, although investors should recognize that they can also get a 2X leveraged effect by buying a regular 1X energy ETF on 50% margin in one’s brokerage account
• ProShares Ultra 2X Oil & Gas (DIG) - $410 million in assets under management (AUM).
• Direxion Energy Bull 3X Shares (ERX) - $250 million AUM.
Short Energy ETFs
There are three short energy ETFs but only the ProShares UltraShort Oil & Gas (DUG) has sufficient assets under management for consideration in our view. Investors should remember to compare the costs of these vehicles with what it would cost to simply go short the ETFs in one’s brokerage firm account.
• ProShares UltraShort Oil & Gas (DUG) – This is a -2X fund with $78 million in assets under management.
• Daily Energy Bear 3x Shares (ERY) – This is a -3X fund with $47 million in assets under management.
• ProShares Short Oil and Gas (DDG) – This is a -1X fund with $12 million in assets under management.
iShares S&P Global Energy Sector Index Fund (IXC) – This fund, launched in November 2001, has $1.4 billion in assets under management. The expense fee is 0.48%. The fund tracks the S&P Global Energy Sector Index, which is a market-cap weighted index that holds 88 globally-listed stocks. The top holdings are Exxon Mobil (XOM) (14.20%), Chevron (CVX) (6.80%), BP (BP) (5.38%), Total (TOT) (4.96%), and Royal Dutch Shell (RDS.A) (4.40%). The country breakdown is heavily weighted to North America and Europe, which together account for 88% of the index. Outside the North America and Europe, the only holdings are China (3.13%), Brazil (2.52%), Australia (2.39%), and Japan (1.15%).
WisdomTree International Energy Sector Fund (DKA) – This fund, launched in October 2006, has $53 million in assets under management. The fund has an expense fee of 0.58%. There are two twists on this fund (1) the component weighting is based on the relative size of a company’s dividend payments, and (2) the fund holds virtually no U.S. energy companies, meaning that it can act as a good complement for investors who might already hold U.S.-listed energy stocks or ETFs and are looking for a non-U.S. energy ETF. The fund is heavily weighted towards Europe with a 71% weight, although it provides exposure to other countries including Australia (17.27%), Hong Kong (6.48%), Japan (4.44%), and Singapore (0.66%). The dividend weighting means that this fund can be attractive to investors who are seeking to maximize their dividends from the non-U.S. energy sector. The fund has a dividend yield of 4.05%. Top holdings include Total (7.46%), Shell-B (RDS.B) (6.82%), Shell-A (6.80%), CEO (CNOOC) (6.35%), and Enersis (ENI) (6.35%).
There are two other ETFs in the global energy group, but the assets under management are too low and we will not discuss these funds in detail.
• SPDR S&P International Energy Sector ETF (IPW) - $15 million in assets under management.
• iShares MSCI ACWI ex US Energy Sector Index Fund (AXEN) - $6 million in assets under management.
Figure 7: Global vs Domestic Energy ETFs – SPDR iShares S&P Global Energy Sector Index Fund (IXC) versus Energy Select Sector SPDR Fund (XLE)
Investment conclusions – Our “Best in Class” choice in the global energy ETF group is the iShares S&P Global Energy Sector Index Fund (IXC), which is by far the largest ETF in the group with $1.4 billion in assets. We like the global exposure that this fund provides, although it is highly concentrated on North America and Europe. The fund’s fee of 0.48% is very reasonable for a global fund.
As more of a specialty fund, we want to give the WisdomTree International Energy Sector Fund (DKA) a special mention as a fund that may be attractive to investors who are specifically looking for non-U.S. energy exposure and are looking to maximize dividends. However, the size of the fund at just over $50 million is relatively low and that raises questions about the long-term viability of the fund if assets do not continue to grow.
The question arises whether it is better for a U.S. investor to invest in a global energy ETF or a U.S.-listed energy ETF. We believe in the general principle of gaining exposure to globally-listed stocks wherever possible since most U.S. investors are substantially underweighted when it comes to global equities. The energy business is a global industry and there are particularly good opportunities in overseas markets, highlighting to us the benefits of being in a globally-listed energy ETF versus a domestic ETF. ETFs are a particular good vehicle for obtaining exposure to global stocks since all the custody and currency issues are taken care of automatically. The only caveat is that an investor needs to recognize that there is some currency exposure in ETFs that hold globally-listed stocks since globally-listed stock prices need to be converted back into the ETF’s U.S. dollar-based index. Figure 7 shows how the global IXC and domestic XLE have gone back and forth as the performance leaders, with neither fund consistently beating the other.
Guggenheim Canadian Energy Income ETF (ENY) – This fund, launched in July 2007, has $100 million in assets under management. The fund has an expense fee of 0.65%. The fund is based on the Sustainable Canadian Energy Income Index, which uses a fundamental selection methodology to choose a combination of Canadian royalty trusts and Canadian oil sands companies. This fund may be appropriate for investors who are looking for dividend yields and exposure to Canadian oil sands.
Emerging Market Energy
We like the idea of investing in energy companies based in emerging countries since energy demand is growing much more quickly in emerging countries than in developed countries. However, there are only two ETFs in this area and neither has enough assets under management to garner a recommendation.
• Emerging Global Shares Dow Jones Emerging Markets Energy Titans Index Fund (EEO) - $13 million AUM.
• Global X China Energy Fund (CHIE) - $9 million AUM.
U.S. Natural Gas
First Trust ISE-Revere Natural Gas Index Fund (FCG) – This fund, launched in May 2007, has $403 million in assets under management. The expense fee is 0.60%. This is the only ETF that focuses on companies that produce natural gas, as opposed to ETF funds such as the United States Natural Gas Fund (UNG) that track natural gas prices by buying natural gas futures contracts. As we discuss in our report on Natural Gas ETFs, the United States Natural Gas Fund (UNG) has a big problem with underperforming spot natural gas prices when the natural gas futures curve is upward sloping (contango). Many investors have been unhappy with trying to invest in natural gas prices via UNG. FCG provides an alternative to investing directly in natural gas by instead gaining exposure to the natural gas market via buying an ETF that holds the stocks of companies that extract and sell natural gas. These companies can benefit from the expansion of the natural gas industry for electricity generation and for heating/cooking even if natural gas prices are not moving higher. Figure 8 illustrates that FCG has far outperformed both spot natural gas prices and particularly UNG. FCG is based on the ISE-Revere Natural Gas Index, which is an equal-weighted index that selects top-ranked U.S.-listed companies that derive a substantial portion of their revenues from the exploration and production of natural gas.
Figure 8: First Trust ISE-Revere Natural Gas Index Fund (FCG) versus United States Natural Gas ETF (UNG) and Spot Natural Gas Prices
Coal has attracted negative attention recently due to mine disasters and the need to reduce pollution and greenhouse gas emissions. Nevertheless, the fact remains that nearly 50% of U.S. electricity is generated with coal, meaning coal is not going away any time soon. Van Eck with its Market Vectors Coal ETF (KOL) has the only real choice in the sector. There is the PowerShares Global Coal Portfolio (PKOL) that launched in September 2008 but that fund has not been able to gain any traction compared to KOL and has only $30 million in assets. This leaves KOL as our “Best in Class” choice in the coal sector.
Market Vectors Coal ETF (KOL) – This fund, launched in January 2008, has $600 million in assets under management. The fund has an expense fee of 0.59%. The fund is based on the Stowe Coal Index, which is a modified market-cap weighted index of globally-listed coal companies. The largest holdings are Consol Energy (CNX) (8.45%), Joy Global (JOYG) (8.45%), China Shenhua Energy (OTCPK:CUAEF) (8.00%), Bucyrus International (BUCY) (7.88%), and Peabody Energy (BTU) (7.69%).