The utility sector is a conservative investment in times of market instability. Focused exchange traded funds also offer a dividend stream, an important feature in this low-interest-rate environment. Utilities Select Sector SPDR (XLU) is one focused ETF that serves as a proxy for this segment in a portfolio.
"Investors holding XLU have historically received generous dividends quarterly, and the fund has generally moved in the same direction as the overall market, albeit with smaller gains and retreats. Broad domestic indexes, like the S&P 500, typically carry a utility weighting of around 2%-4%, a figure that investors should consider when using this fund as a complement to an established core portfolio. Moreover, the fund's 0.18% expense ratio is low even by ETF standards, making it the cheapest utility sector fund available," Abraham Bailin wrote in a recent Morningstar article.
The ongoing Eurozone debt crisis and lowered growth rate for China has created recent market uncertainty for investors. The utility sector is a constant, safe haven for investors in equity markets. Abraham Bailin for Moriningstar reports that the utilities space has posted a three-year standard deviation measure of roughly 10, whereas the S&P 500 posted a much higher metric of nearly 15 over the same period.
The low price of natural gas is the main risk for the utility sector right now. The ongoing low price of the commodity cuts into the margins of unregulated non-natural gas utilities.
On the other side, some motivation to holding an ETF such as XLU is the belief that our nation's electrical infrastructure will require substantial investment. Furthermore, the idea that utilities will continue to be able to tap capital markets effectively, and that natural gas prices will not decline, while electricity demand will continue rising over the long run make a solid case for a utility ETF holding.
Furthermore, according to Morningstar data, investors in XLU have historically received generous dividends quarterly. The fund has generally moved in the same direction as the overall market, posting smaller gains but taking less losses on market dips.
Utilities Select Sector SPDR
Tisha Guerrero contributed to this article.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.