Most sector ETFs have hit new year-to-date highs.
Some sector investments like SPDR Select Sector Health Care (XLV) are not only blazing a trail in 2014, they’re crushing all-time records. Meanwhile, REIT ETFs like iShares DJ Real Estate (IYR) have shaken off the hangover of 2013’s massive spike in rates and have rallied back to take advantage of declining 10-year bond yields.
In contrast, a few segments of the economy have failed to significantly engage market participants. SPDR Select Sector Financials (XLF) remains below its 52-week peak. More noticeably, SPDR Select Sector Energy (XLE) is still slightly negative for 2014. While some prominent advisers and commentators maintain that uncertainty in Central Europe adds to pressures on energy prices, or at least impedes deflationary concerns surrounding energy use, I am not seeing institutional buying interest in XLE.
At least in terms of relative strength, the declining growth in emerging regions of the world has given energy investors fits for years. Even escalating conflicts between Russia and Europe do not provide enough support for the idea that energy price inflation will support the broadest energy ETF. That said, enthusiasts could look to energy services for their fix. The iShares DJ Energy Equipment and Services Fund (IEZ) has been far more successful at taking advantage of geopolitical conflict.
Another school of thought is that investors ought to consider all energy producers and invest in those with the premier fundamental picture. I do not subscribe to that school of thinking. If it were this basic, one would likely gravitate toward Russian equities. Market Vectors Russia (RSX) has a 42.5% weighting in energy and Russian stocks are remarkably cheap. A price-to-earnings of 5.7 and a price-to-book of 0.7… where would you ever find a “deal” like that?
The problem with this simplistic analysis is that Russian equities are perpetually inexpensive with a long-term cyclically-adjusted price-to-earnings ratio (CAPE) average of 8.5. What’s more, with new technologies and new discoveries by U.S. producers, earnings/revenue growth at Russian oil/natural gas producers may be muted.
Last, but hardly least, the technical picture for RSX is particularly poor with the exchange-traded fund exhibiting price movement akin to a “triple top” or “head-n-shoulders” pattern between September and late December of 2013.
Still another school might ignore fundamentals in favor of a momentum-based, decision-making process. When compared to an appropriate small-cap benchmark, like the Russell 2000, PowerShares Small Cap Energy (PSCE) has an impressive combination of 1-month momentum and longer-term outperformance. This exchange-traded fund tracks the S&P SmallCap 600 Capped Energy Index, investing the bulk of its assets in small stocks that engage in the business of producing, distributing or servicing energy related products, including oil and gas exploration and production, refining and oil services.