Utility ETFs invest in regulated utility companies such as those providing water, electricity, and natural gas. They are defensive investments that offer dividends regardless of the business cycle, but are vulnerable to changes in regulation. Investors can diversify their portfolios by investing in global utility ETFs or leveraged and inverse ETFs.
Exchange-traded funds (ETFs) are funds whose portfolios are exposed to utility companies that are regulated. The companies to which a typical utility ETF in this particular sector is exposed are those that provide, for example, water, electricity, natural gas, and other daily utilities. This type of ETF can be vulnerable to changes in regulation, and its performance is related to that of the securities you own.
In a basic sense, the fund buys securities of companies in the utility sector based on specific criteria. It then turns around and sells shares to individual investors and/or institutions, and the proceeds can be funneled into buying more utility company securities. In general, a utility ETF also uses a certain utility sector index as a performance benchmark. Also, the ETF can be traded on a stock exchange in the same way as stocks, and it earns dividends.
Typically, a utility ETF does not experience the same volatility as the stock market in general due to its nature. It is a defensive investment, which means that it will continue to issue dividends regardless of the business cycle. This is because even in a recession, when most industries are suffering, consumers still need water, electricity, and other utilities. So a utility ETF can be an attractive investment in a recession, but when the economy is thriving, there are other investments that can possibly offer better returns.
Infrastructure businesses, also known as utilities, are typically subject to changes in government regulation. The performance of a utility ETF investment will be influenced by regulation that directly affects utility companies. This is because the performance of a utility ETF is primarily tied to that of the companies the ETF holds in its portfolio. This also means that if the utility sector is doing well, the ETF should normally do well.
Investors can further diversify their portfolios by investing in ETFs that reach other utility markets on a global scale. Investors who can take the added risk of a higher return possibility can even access utility ETFs that are leveraged. There are also so-called inverse ETFs, which allow investors to use particular hedging strategies. An inverse ETF, as its name implies, will move in the opposite direction of the index it tracks. That is, if the index goes up, the ETF will fall, and if the index goes down, the ETF will appreciate.
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