XLU Utilities Select Sector

The utilities sector is known for its non-cyclical nature. We hardly find utility shares garnering massive gains, but the sector is the darling of risk-averse investors thanks to their regulated nature of operations and steady return to shareholders. These provide a safe haven in tough times, but do not have the potential to skyrocket in boom times.
 
In such a scenario, investors can watch out for an ETF – NASDAQ Clean Edge Smart Grid Infrastructure Index Fund (GRID) – which is mix of great return and Medium risk outlook (read: A Comprehensive Guide to Utility ETFs).
 
GRID in Focus

The fund offers exposure across the grid and electric energy infrastructure sector. It tracks the Nasdaq OMX Clean Edge Smart Grid Infrastructure Index and holds 31 securities in its basket.
 
In terms of industries, electrical equipment takes the top spot with around 35% of exposure, followed by modest allocations to Engineering & Construction and Electric utilities.
 
The product gained over 23.7% in the year-to-date time frame (as of November 6) and 18.3% in the trailing one-year period (as of September 30) beating the sector behemoth – SPDR Utilities Select Sector Fund (XLU) – which delivered a 11.3% year-to-date return.           
 
GRID’s year-to-date return was also way higher than that of Vanguard Utilities ETF (VPU) which gained about 13%, iShares Dow Jones US Utilities Sector Index Fund (IDU) that added 13.1% and Guggenheim S&P 500 Equal Weight Utilities ETF (RYU) which returned 12.7%.
 
Why GRID is Breezing Past its Utility Cousins
 
There are several features that distinguish GRID from other regular utility funds. Unlike the above-said funds which solely focus on utilities, GRID has as much as 72% exposure in industrials followed by utilities and technology each accounting for just 14% of the total. This makes GRID somewhat less interest rate sensitive.
 
As a result, investors unnerved about a fresh round of taper talk next year, might favor GRID over other utility funds as interest rates are likely to rise if the Fed begins tapering (read: Utility ETFs: Winners After the No Taper Announcement?). 
 
Utilities require huge infrastructure which put a massive debt burden and the resultant interest obligation on these companies. This leaves the sector with no scope of outperformance in a rising rate environment.   
 
Although by a margin, the fund is open to the technology sector which recently came into limelight after turning around the weak earnings trend of the last few quarters.
 
Moreover, unlike pure utilities that normally are drawn towards value stocks, GRID puts focus on the soaring growth stocks (by about 40%) which is providing GRID the edge over the broader space. Notably, growth investing is basically a momentum play, which makes it a great strategy in a trending market (i.e. a market characterized by a prolonged uptrend).
 
Also, GRID steers its focus away from the large cap space as evidenced from just 24% exposure in it.  This is in stark contrast to the above-mentioned funds most of which put at least 65% of assets in large caps (see all the Utility ETFs here).
 
Mid and small caps each take 38% share of GRID. As we all know, mid and small caps are known for their growth profiles while the larger ones for stability. Since smaller companies generally bounce back faster in a reviving economy than the larger ones, it is now quite clear why GRID took the shine off the regular utility funds. 
 
Further, as opposed to the above-said funds, GRID has almost half of the total exposure in Europe. With Europe waking up from a two-year crisis and manufacturing activity gaining momentum, GRID has easily become a beneficiary of the upswing. Also, the recent interest rate cut by the European Central Bank should lend a hand to GRID’s performance ahead.
 
Bottom Line

Despite hailing from the broad utility and infrastructure sector, GRID’s uniqueness helped it surge this year. This solid run is also expected to continue in the final quarter as the sentiments in the broad economy are in favor of GRID (also see Power Your Portfolio with These Utilities).
 
On the downside, GRID is slightly pricier as it charges a fee of 70 bps compared to the average expense ratio of 0.55% charged by the funds in the utilities space. However, its recent outperformance compared to others in the space should more than make up for this added cost for most investors, especially if other utilities get hit by rising rates in the months ahead.
 
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FT-NDQ CESGI IF (GRID): ETF Research Reports
 
ISHARS-US UTIL (IDU): ETF Research Reports
 
VIPERS-UTIL (VPU): ETF Research Reports
 
SPDR-UTIL SELS (XLU): ETF Research Reports
 
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