This Sector Is Getting Crushed…

By on June 16, 2015

Utilities are getting crushed…

The S&P Utilities Sector Index, which tracks the performance of electric, gas, and water utilities, is down 10% year to date. That compares with a 1% gain for the S&P 500.

This is important… even if you don’t own utility stocks in your portfolio.

You see, traditionally, utilities fare badly in rising interest-rate environments. That makes them a canary in a coal mine for where interest rates are headed.

There are two main reasons for this…

First, the power, water, and gas distribution businesses are capital intensive. Water pipes need to be upgraded. Power cables need to be maintained. And gas leaks need to be fixed.

That means utilities tend to borrow a lot of money. This makes them particularly sensitive to interest rate rises, which push up the cost of carrying debt.

Second, the utilities sector is one of the most reliable sources of dividend income available in the stock market.

Right now, for instance, XLU has a dividend yield of 3.3% versus 1.8% for the S&P 500.

Utilities operate in highly regulated environments and are protected from competition. They’re also protected from economic downturns. People need – and pay for – electricity and water no matter what the economy is doing.

No matter what the economy is doing, the price of those utility bills – as you know – tends not to move around a lot.

That means utilities have more reliable income streams then other types of companies… and can be counted on for consistent dividend payments as a result.

This makes the utilities sector hugely popular among yield-starved investors.

But when interest rates rise, so do Treasury bond yields. This means investors can pick up a higher yield in the supposedly safer bond market.

On a relative basis, this makes the yield on utilities less attractive to investors… And investing is always a relative game.

The mainstream press… and mainstream investors… may have gotten used to ultra-low interest rates as far as the eye can see.

But the big plunge in the utilities sector this year suggests that a significant number of investors sees things differently.

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