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Investing in Sector ETFs

Investors looking for more than just broad exposure to U.S. equities through traditional mutual funds and ETFs frequently target funds that invest in specific types of investments or sectors. This can take the form of value funds, growth funds or sector ETFs that invest in sectors like metals and materials, energy, technology, finance or healthcare.

Investing in sector ETFs requires active management to ensure that you’re invested in the highest-performing sectors and not passive ownership as cash rotation can drive down individual sector performance even in a bull market. The following three sector ETFs are currently outperforming the S&P 500.


3 Sector ETFs Beating the S&P 500

The energy sector has cooled with the arrival of the Delta variant after rapid growth in the first half of the year. However, the Energy Select Sector SPDR ETF (XLE) is still boasting a year-to-date total return of about 26%. The energy sector was slammed in 2020, making this turnaround even more impressive.

A few trends are expected to contribute to strength in energy sector ETFs. There are expectations for increased travel due to continuing pent-up demand once the Delta vanes, which will likely lead to higher fuel prices. Also, as businesses ramp up after lockdowns, their energy needs are increasing.

The Financial Select Sector SPDR ETF (XLF) is also in the money (and just off all-time highs), with a year-to-date return of almost 30%. The financial ETF twice found support in June and July, before breaking through resistance in mid-August and subsequently finding support at higher levels.

Watch for signs of a further pullback, if institutional investors believe it’s time to take some profits after a run-up that began in April 2020.

Probably the most closely watched sector, and the one that drove the lion’s share of 2020’s gains, is technology. The Technology Select Sector SPDR ETF (XLK) is up over 23% year-to-date. As many of the largest stocks in the S&P 500 hail from this sector, you’ll see situations where weakness in tech can put a dent in the overall market.

Although broad market trends remain bullish, the increase in choppy trading means that individual stocks and sector ETFs can quickly fall out of favor as investors pivot from the technology stocks that drove the pandemic recovery rally and into sectors poised to benefit from national and (eventually) international reopening.

Longer-term buy-and-hold investors will continue to enjoy modest portfolio gains due to the aforementioned bull market, but investors looking to outperform may want to consider targeting short- and intermediate-term trends in those individual stocks and sector ETFs.

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What’s your favorite method for identifying breakout sectors?

Kate Stalter is a Series 65-licensed asset manager, with more than two decades of experience in various areas of financial services. As an investment advisor and financial planner, Kate personally manages client portfolios, with a focus on successful retirement, including asset allocation, income generation and tax strategies.