XLU: Long-Term Investors Need To Pay Attention (NYSEARCA:XLU)

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There are stock traders, ones who trade in and out of stocks looking for relative bargains, and there are buy-and-hold investors who purchase a stock and hold on to it for years and decades.

Many of us are both to some degree or other. Keep a basic portfolio of stocks, bonds, and other assets; and then trade around perceived opportunities for fun and, hopefully, profit.

The Utilities Select Sector SPDR Fund (XLU), which serves as a proxy for the public electric utility stocks, has been caught up in the exuberance of the stock market, and serves as a symbol of what the utility sector has been experiencing recently.

Utility Workers

Since I wrote my last article on XLU for Seeking Alpha (XLU: Time For Utilities), the index has risen nicely.

For the most recent three months, it is up more than 8%. That compares nicely with its one-year change of -1.1%, although it has increased at less than half the rate of the S&P 500.

XLU 3-month price chartSource: Seeking Alpha

Winners and losers in the index

If you look at the holdings of the index, you have stocks advancing more than 20% over the last 90 days, including NextEra Energy (NEE), Xcel Energy (XEL), American Water Works (AWK), and DTE Energy (DTE).

A spectacular standout is AES Corporation (AES), which has risen more than 48% in three months.

That is a real mix of companies. Some, like NextEra, have been consistent leaders in the utility sector, while American Water Works is an outlier in that it is not an electric utility. AES Corporation is known as much for its continuing high debt/equity ratio as for its sustainable energy.

Meanwhile, you have stocks in the index that have been hit with stock-specific bad news that is weighing down the index.

FirstEnergy Corporation (FE) is facing accusations of bribing elected officials in Ohio to obtain favorable legislation.

Investors hurt by the PG&E (PCG) bankruptcy fear that Edison International (EIX) may undergo a similar fate in the near future depending on weather conditions, and speculators bailed out of Evergy (EVRG) when they found that it wouldn’t be sold to the highest bidder.

The rush into utilities

Utility stocks are seen as a “safe” investment paying consistent and predictable dividends, which have extra value in time when other stock prices seem less stable.

With Covid-19 concerns that many customers may fall behind in paying their utility bills, that belief in the safety of utility dividends might be called into question.

But if investors are rushing to safe assets, why the strength of AES, which meets almost the dictionary definition of a speculative stock?

Furthermore, back in the distant past also referred to as March, when the stock market took a dive, XLU dived with it.

XLU 6-month price chartSource: Seeking Alpha

Take that as a warning that if the market swoons again, and it may between now and the November election, XLU will not be an island of safety.

Added danger, stock dilution

In addition to the normal dangers of a falling stock market, historically more likely in the last six months of the year, then in the first six months, there is also the longer-range danger that a spike up in interest rates will find capital-intensive utilities vulnerable.

The combination of customers being unable to pay their utility bills due to persistent high unemployment related to the coronavirus, state utility regulators reluctant to approve higher rates to offset these non-payments, and a demand that utilities more quickly convert to non-fossil fuel generation might put electric utilities in a bind.

It is not impossible to suppose that if revenues are not increasing even as capital costs rise, utilities might have to issue additional stock, which will dilute current shareholders.

If state regulators do not allow utilities to recover their Covid-19-related costs, then issuing more shares might be the only alternative.

In this scenario, utilities in the most regulator-friendly states will have an advantage over those facing more hostile audiences.

Since XLU is a combination of utility stocks from around the nation, it absorbs some of this uncertainty by blending hostile and regulator-friendly utilities into a single group.

Ups and downs bring in and take out short-term traders

For long-term investors in electric utilities, the highs and lows in utility stock prices is an unmixed blessing.

When the short-term traders rush into the sector, they bid up prices to unsustainable levels.

When prices invariably drop, the long-term investors can scoop up opportunities, lock in dividend yields, and wait for the investment tide to return.


Investment trends come and go, and sometimes they include electric utilities, and sometimes they exclude them.

Right now, there are a handful of technology companies driving the S&P 500 index higher, much above the returns offered by XLU, but over time, electric utilities will continue to prove their value for patient investors.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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