The normally docile Utilities Select Sector SPDR (XLU ) and its peers have been a bit more volatile than usual in recent months, but even with equities on the mend, investors shouldn’t forget about the defensive, income-generating sector.
Utilities are typically more stable stocks since the demand for their services, notably electricity and gas, is steady from both consumers and businesses. Moreover, in a lower-for-longer yield environment, utilities come with more attractive above-average dividends.
“The past three months prove investors should heed valuation signals, even for utilities,” said Morningstar analyst Andrew Bischof in a recent note. “Since we warned of record-high utilities valuations in late February, the Morningstar U.S. Utilities Index is down 15%, trailing the S&P 500 (down 8%). U.S. utilities are now in line with our fair value estimates. With interest rates still low, investors might find dividend yields attractive.”
XLU Still Matters
The defensive and yield-generating utilities play is garnering greater attention as a growing number of people are looking to global central banks, including the Fed, to lose monetary policies and execute accommodative measures to obviate a potential economic downturn in response to the coronavirus outbreak. XLU, the largest utilities ETF, now yields an impressive 3.18%, far higher than the yields found on the S&P 500 or 10-year Treasuries.
Additionally, many XLU member firms are making the necessary investments to capture long-term growth.
“We forecast $656 billion of capital expenditures over the next five years for the U.S. utilities we cover, more bullish than consensus and up from $541 billion during the past five years,” writes Bischof. “This capital investment supports our median 5.5% earnings growth and 6.5% dividend growth forecasts through 2024.”
Utilities are typically more stable stocks since the demand for their services, notably electricity and gas, is steady from both consumers and businesses. Moreover, in a lower-for-longer yield environment, utilities come with more attractive above-average dividends.
Importantly, XLU components offer some exposure to the renewable energy boom, which bolsters the long-term thesis for the ETF.
“Growth and income investors will benefit from owning companies that invest in renewable energy and supporting infrastructure during the next 5-10 years. Utilities have substantial ground to cover to meet public policy targets and corporate demand,” according to Bischof.
