It's becoming easier for investors to place their bets. The boom in sector-based exchange-traded funds (ETFs) makes it easy to wager on a hot industry without the risk of buying individual stocks.
These specialty funds can help plug holes in a diversified portfolio, and transaction costs are cheap because you are buying or selling one ETF holding a basket of stocks.
Before pursuing this strategy, however, investors should check whether an industry-sector ETF overlaps with their current holdings. Otherwise, they could wind up doubling their bet.
We asked three ETF experts for their top picks among sector funds.
Daniel Straus, ETF analyst with National Bank Financial, Toronto
iShares Exponential Technologies ETF (XT-NYSE), with a management expense ratio (MER) of 0.47 per cent: This global ETF, which invests in leaders in technological transformation, taps into a potential "hotbed of future economic growth," Mr. Straus says. Launched in March, this ETF covers both broad-sector technology funds invested in established companies and those focused on niches such as cloud computing, social networking, robotics or smartphones. This fund, which tracks the Morningstar Exponential Technologies Index, invests in large and small companies in both developed and emerging markets. It can include firms in biotechnology, energy or even financial services. Among the top holdings are Netflix Inc., Valeant Pharmaceuticals International Inc. and Skyworks Solutions Inc. This ETF is suitable for long-term, risk-tolerant investors, Mr. Straus notes.
iShares S&P/TSX Capped Financials ETF (XFN-TSX), with a MER of 0.61 per cent: This ETF, which owns Canadian banks and life insurers, is a good way to make a short or longer term bet on the financial sector, says Mr. Straus. "We have seen better-than-expected job creation despite troubles in the oil market, as well as the prospect for elevated interest rates driven by U.S. monetary policy. Both factors are likely to be positive for banks and some life insurance companies." Royal Bank of Canada, Toronto-Dominion Bank and Bank of Nova Scotia are the top holdings in this ETF. This fund can be used by investors for short-term trading because it is the largest of its kind in Canada and can be bought or sold easily, he noted.
Tyler Mordy, co-chief investment officer at Hahn Investment Stewards, Toronto
iShares U.S. Home Construction ETF (ITB-NYSE), with a MER of 0.43 per cent: This ETF should benefit from a rebounding U.S. economy as well as tailwinds from low mortgage rates, encouraging jobs and wage data and debt-reducing households, Mr. Mordy says. "While recent economic data out of Europe and Japan has been promising, the United States is arguably the only major economy that has shown any sustained positive momentum. American companies that primarily generate their sales domestically should outperform their export-dependent and multinational peers over the near term as they avoid currency translation losses." Top holdings in this ETF include D.R. Horton Inc., Lennar Corp. and PulteGroup Inc. Stocks in the home construction industry, however, tend to be highly cyclical and are more volatile than the broader U.S. market, he noted.
iShares S&P/TSX Capped Utilities ETF (XUT-TSX), with a MER of 0.63 per cent: This ETF is attractive for more risk-averse investors because it offers a stable yield in a low-interest-rate environment, Mr. Mordy says. "Utilities are traditionally thought of as stable cash-flow investments that have a low beta [low volatility], and are classified as defensive. This ETF also had a higher yield than the general market." The fund owns 12 dividend payers, including Fortis Inc., Emera Inc., Canadian Utilities Ltd. and Brookfield Renewable Energy Partners LP. Rising interest rates could hurt utility stocks because the borrowing costs for this capital-intensive industry could increase, while investors may leave the sector in favour of bonds. But higher rates are not a big concern yet, he said. "We are still in the lower-for-longer camp on interest rates, particularly for Canada."
Christopher Davis, director of fund analysis at Morningstar Canada, Toronto
iShares S&P/TSX Capped Energy ETF (XEG-TSX), with a MER of 0.61 per cent: The energy sector is worth considering even though oil prices have rebounded after plunging to below $50 (U.S.) a barrel, says Mr. Davis. The sector still looks "mildly undervalued," he said. Morningstar equity analysts have a $75 target for crude oil, which has hovered around $60 a barrel recently. The iShares ETF is a way to "make a broad bet on energy," he said. Its top holdings include Suncor Energy Inc., Canadian Natural Resources Ltd. and Cenovus Energy Inc. Because Canadian producers are more reliant on costly oil sands production, they require a higher oil price to be profitable, he noted. Domestic energy stocks, however, can benefit from a weakening loonie because the companies' costs are typically in Canadian dollars while oil is priced in U.S. dollars, he added.
Energy Select Sector SPDR ETF (XLE-NYSE), with a MER of 0.15 per cent: This ETF, which tracks energy stocks in the S&P 500 Index, is a way to bet on recovering oil prices but with less of a roller-coaster ride than its Canadian peers, Mr. Davis says. The U.S. ETF is "likely to be less volatile" because more U.S. energy companies have competitive advantages, such as economies of scale, that can allow them to weather downturns better, he added. The ETF's biggest holdings include Exxon Mobil Corp., Chevron Corp. and Schlumberger NV. With a U.S.-listed ETF, however, investors are taking on additional currency risk, and transaction costs could be higher if they don't already have a U.S. dollar account, he said.