Sizing Up Sector Funds

7/30/2015


Smart investors seize opportunities everywhere in the market. Sector funds, which offer exposure to a small slice of the overall market, allow you to make targeted bets. Fund investors seeking top picks from 11 distinct sectors should consider the exchange-traded funds (ETFs) listed below.

TOP ETFs IN 11 SECTORS
The 11 low-cost ETFs below earn excellent fund scores. Because of their narrow focus, sectors funds can generate strong returns — but with heightened volatility. The funds are typically best used as a complement to a diversified portfolio.
---- Annualized Return ----
Fund (Price; Ticker)
Fund
Rating
1
Year
(%)
3
Years
(%)
5
Years
(%)
Est.
Yield
(%)
Expense
Ratio
(%)
Energy Select Sector SPDR
($73; XLE)
100
(23.0)
5.9
9.1
2.7
0.15
Financial Select Sector SPDR
($25; XLF)
98
11.4
21.4
12.9
1.7
0.15
Guggenheim S&P 500 Cons.
Stap. ($109; RHS)
96
13.6
19.9
18.4
1.8
0.40
Guggenheim S&P 500
Industrials ($87; RGI)
92
2.7
20.0
16.1
1.4
0.40
Guggenheim S&P 500 Utilities
($71; RYU)
100
2.7
11.1
12.9
4.4
0.40
iShares U.S. Healthcare
Providers ($143; IHF)
94
38.5
30.2
25.4
0.1
0.45
PowerShares Dynamic Media
($28; PBS)
100
9.5
24.0
18.7
0.8
0.62
PowerSh. S&P SmallCap Info.
Tech. ($51; PSCT)
94
13.0
22.7
17.5
0.1
0.29
Vanguard Cons. Discretionary
($127; VCR)
100
17.7
24.2
22.4
1.1
0.12
Vanguard Materials ($106; VAW)
98
(1.8)
13.9
12.9
1.8
0.12
Vanguard REIT ($78; VNQ)
94
6.8
9.5
14.1
3.9
0.12

But before you buy a fund or two, consider a word of caution: Many sector-fund investors have awful timing, buying high after chasing performance and selling low when unnerved by a downturn. Consider investors who piled into utility funds at the start of 2015. Up a heady 17.1% in 2014, the funds have slumped 4.5% this year.

Moreover, for a bet to truly pay off, investors need to pick a strong sector and a top-performing fund — no easy task. For example, health-care funds are runaway best performers this year, returning an average of 20.5%. But among the 128 health-care funds tracked by Morningstar, performance varies from a gain of more than 33% to less than 10%.

While we don't suggest investors hold more than two or three sector funds, neither do we overlook the appeal of targeted exposure. Along with the potential for impressive performance, sector funds allow for precise asset allocation. Moreover, the funds can be used for sector-rotation strategies and thematic investing.

The table above lists 11 low-cost ETFs that excel in our rating system. Funds earn scores of at least 92, meaning they rank better than about 92% of their category group. Our percentile ranks, which cover nearly 500 sector funds, are calculated monthly using total returns, expense ratios, tax-efficiency, and risk-adjusted performance. Notable picks in health care and technology — the two largest sector weightings for our Buy List — are profiled below.

iShares U.S. Healthcare Providers ($143; IHF) focuses on companies providing insurance, diagnostics, and specialized treatment. The ETF holds 51 stocks and earns a fund score of 94. The fund, with an expense ratio of 0.45%, is up 21.2% so far in 2015. The five-year annualized return is an impressive 25.4%


PowerShares S&P SmallCap Information Technology ($51; PSCT) offers an attractive combination of a high fund score (94), low expenses (0.29%), and solid track record. Holding 105 stocks, it has sizable exposure to electronic equipment (25% of assets) and semiconductors (24%). The average market capitalization of its component stocks is $1.7 billion. The ETF has climbed 3.0% this year.

OUR RECOMMENDED MUTUAL FUNDS
Year-To-Date *
--- % Of Portfolio ---
 
Fund (Price; Ticker)
Return
(%)
Rank
Conser-
vative
(%)
Growth
(%)
Fund
Rating †
Artisan International ($31; ARTIX)
4.7
E
9
9
88
Baird Core Plus Bond ($11; BCOSX)
(0.1)
B
9
4
96
Dreyfus Midcap Index ($40; PESPX)
5.4
B
0
0
52
Dreyfus Small Cap Stock Index
($30; DISSX)
5.3
C
0
0
81
Homestead Small Company
($41; HSCSX)
4.6
C
5
6
73
iShares MSCI EAFE Small-Cap ETF
($51; SCZ)
11.2
C
4
6
83
PRIMECAP Odyssey Stock ($25; POSKX)
4.0
B
10
10
99
T. Rowe Price Divers. Small-Cap Growth
($28; PRDSX)
11.4
B
7
7
100
T. Rowe Price Value
($36; TRVLX)
2.8
B
10
11
96
Thompson Bond ($11; THOPX)
1.2
A
9
4
76
Vanguard 500 Index ($195; VFINX)
3.5
C
7
8
79
Vanguard GNMA ($11; VFIIX)
0.1
B
0
0
100
Vanguard Growth Index
($57; VIGRX)
5.8
C
10
11
82
Vanguard High-Yield Corp. ($6; VWEHX)
2.2
D
5
6
92
Vanguard Inter.-Term Tax-Exempt
($14; VWITX)
(0.1)
C
0
0
88
Vanguard Selected Value
($29; VASVX)
3.0
C
5
8
88
Vanguard Short-Term Invest.-Grade
($11; VFSTX)
1.0
B
0
0
98
Vanguard Total Bond Mkt. Index
($11; VBMFX)
(0.4)
D
0
0
38
Vanguard Wellesley Income
($25; VWINX)
0.3
E
0
0
97
Vanguard Wellington ($39; VWELX)
1.7
D
10
10
95

* Year-to-date ranks through July 14 from Morningstar, comparing performance among funds with same objectives. A = top 20%; B = next 20%; C= middle 20%; D = next 20%;
E = bottom 20%. † Fund ratings are percentile ranks based on our fund-rating system.


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