The past few months have seen investors pouring money into energy exchange-traded funds (ETFs), seeing the plummeting price of oil as a buying opportunity, but some caution the market rout is far from over.
Data from Lipper, a Thomson Reuters company, shows millions being invested in North American energy ETFs, especially during the last month 2014 when oil's drop was most prominent, which is in contrast to the same period in years prior.
Examples include American-based Energy Select Sector SPDR Fund (Nasdaq: XLE), with top holdings such as Exxon Mobil Corp. and Chevron Corp. and Canadian-based iShares S&P/TSX Capped Energy Index ETF (TSX: XEG), with Suncor Energy Inc. and Canadian Natural Resources as its top holdings.
In that sense, flows in both American and Canadian products have been very much alike.
Even as XLE and XEG lost about 21 per cent and 43 per cent of their value respectively in the last six months of 2014, trading volume and inflows spiked.
Between 2008 and 2013, average December flows for XLE was negative $459.5-million, versus in 2014, when Lipper estimated inflows of $2.3-billion. XEG told a similar story, with previous average inflows of $14.9-million paling in comparison to last month's estimate of over $300-million.
As of January 26, 2015, both funds have made small moves towards a rebound with prices up 6 per cent and 12 per cent from their lowest points in December respectively, another potential indicator of investors' hopes for recovery.
ETFs are often an attractive option for those wanting to put their money into a basket of companies through one investment, as the fees are usually lower than mutual funds at less than one per cent.
According to experts, the recent strength in flows is indicative of investors making a broad bet that the price of oil will eventually bounce back. Others are looking to rebalance the energy portion of their portfolios, which have dropped now that oil has fallen by more than half since last summer to around $45 (U.S.) per barrel. Recent speculations have also predicted that oil could now be reaching its bottom.
But Terry Shaunessy, president and portfolio manager at Shaunessy Investment Counsel, says he is staying away from energy investments today, believing the market is too unpredictable.
Instead, his firm is getting its energy exposure through broader TSX-related funds such as the Horizons S&P/TSX 60 Equal Weight ETF (TSX: HEW).
"It tends to even out the sector between financials, energy and materials," he said.
For those who are investing in ETFs, he recommends they look at the makeup of the fund and decide whether they might be better off owning the individual stock without the expense ratio.
"ETFs are a great idea for broad markets, but when you start to get down to sectors you have to be careful because they tend to be expensive and narrow," he said. "They aren't always the best way to go."
According to BlackRock, which is behind the XEG product, there were $121-million worth of inflows in October, $98-million in November and $302-million in December.
Pat Chiefalo, head of product for iShares, BlackRock Canada, said $555-million of new money has moved into the XEG since September. Assets under management (AUM) have increased to $1-billion from about $600-million. Average volume for the ETF has increased from about one million shares per day to about five million per day.
"The ETF has facilitated a transfer of risk for those that wanted to get into the market. They could do so at a low cost and efficiently. For those that wanted out there was ample liquidity for them to sell the underlying ETF," he said. "It's safe to say that, as the price came down, people potentially viewed it as a better entry point than they've seen the past few years … putting money to work in the space."
Some investors, however, are staying on the sidelines until they see some stability in the oil market.
Robert "Hap" Sneddon, portfolio manager, technical analyst and founder of CastleMoore Inc., said his firm sold out of energy stocks and ETFs in June and July after seeing prices were beginning to peak and sensing a supply issue on the horizon.
To get back in, he would want to see some resolution to oil's woes, through price or time.
"We have to wait and see that the lows are in – and confirmation for that," he said.
He believes investors that are buying energy ETFs today are looking for safety in numbers when returning or adding to an energy portfolio.
"For example, the XEG is going to be the safest toe in the water because you are getting the while group," he said.
Overall, he believes those buying into the sector right now are a mix of short-term investors or those making allocation decisions in their portfolios.
"Some people think [the drop in energy stocks] is overdone, other people think, 'Well, I just have to rebalance,'" he said.
The recent race into energy ETFs, however, is seen as an atypical investor reaction, says FMD Capital Management managing partner David Fabian.
"Most cycles involve chasing outperforming areas of the market while heavily selling sectors that falter," he said in a recent article. "At this stage of the game, outflows in energy funds should be picking up as capitulation and fear set in."
Instead, he notes the opposite is happening with more money going into many energy ETFs.
Fabian says there's a danger oil price will continue their downward spiral "bringing more sellers to the table," but that long-term investors could be getting quality investments at bargain prices.
"You should carefully evaluate your risk tolerance and investment objectives to determine if energy ETFs make a suitable fit in your portfolio," he says.
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