Standard & Poor’s may be negative on equities markets these days, but its analysts are pretty high on utilities stocks and ETFs.
In a new report released this week, S&P upgraded this category of equities from "marketweight" to "overweight," even as they move their broader portfolio recommendation to a more defensive position.
S&P equity analyst Todd Rosenbluth, one of the authors of the report, told On Wall Street, “In a volatile market, investors tend to favor utilities because they pay dividends, and because utilities are not as dependent on consumer spending and economic growth. After all, energy use is one of the last things consumers cut back on when they cut spending.”
Rosenbluth adds that the utility sector’s latest dividend yield was 4.5%, which was more than double the broader market’s average of a 2.2% yield.
Year-to-date through August 18, the utilities sector, which represents 4% of the S&P 500 Index, was up 3.2% on price alone at a time when the broader S&P 500 Index was down by 9.3%.
There is a range of performance within the utilities sector, which S&P breaks into five sub-categories.
Gas utilities, for example, have shown higher price-to-earnings valuations of late than have multi-utilities and electric utilities.
As S&P Equity Analyst Christopher Muir explains in the report, “Many gas utilities have exposure to unregulated exploration and production operations that fuels faster growth than more plain vanilla utilities, and as a result, this sub-industry tends to have higher P/Es due to faster earnings growth and lower yields due to the use of cash to fund the higher growth businesses.” Also, he notes, gas utilities are somewhat insulated from economic weakness because the bulk of the profits in that sector come from sales to residential customer’s, whose demand for gas tends to be relatively steady.”
The analyst team is recommending two utilities ETFs as “overweight" -- their top ranking. They are:
-- The Utilities Select Sector SPDR Fund (XLU), which with a market cap of $4.3 billion is the largest -- and also the oldest -- of the 16 utilities ETFs followed by S&P. Among this ETF’s top 10 holdings, which account for over half the fund’s assets, are Southern Co., Exelon Corp., Dominion Resources Inc., NextEra Energy Inc., and Duke Energy Crop. S&P’s equity analysts have a "strong buy" opinion on one, a "buy" recommendation on four, a "hold" recommendation on four and a "sell" recommendation on only one.
Rosenbluth said, “At 20 basis points, this is a cheap ETF, and you get good diversification with electric, multi and some gas utilities, and there’s not a lot of risk.”
-- The Wisdom Tree Global ex-US Utilities Fund (DBU). A much smaller fund, with a market capitalization of some $30 million, this ETF has a broad range of about 90 international holdings, with the Top 10 -- all non-U.S. companies -- representing 57% of total assets.
The largest holdings are Enel Societa Per Azioni, an Italian utility, and GDF Suez. While this ETF is “slightly more expensive” at 58 basis points, Rosenbluth says, “This ETF gives you international diversification, and since these are utilities, you’re still getting dividends, and your risk is relatively modest.”