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Q4 Outlook For Consumer Staples ETFs

Despite a moderate recovery in the U.S. economy, investors are skeptical due to global growth worries that have been haunting the markets lately. The Chinese central bank’s sudden move to cut interest rate and devalue its currency in August to prop up growth not only failed to calm investors, but worsened the economic picture worldwide. This global turmoil has also impacted Asian and European markets. The major U.S. indexes – S&P 500 and Dow Jones Industrial Average – are currently yielding negative year-to-date returns. (Read: Apple ETFs–Value Trap or Value Play ) The softened economic data validates the Federal Reserve’s decision to keep interest rates unchanged. Investors now anticipate further delay in a rate hike due to disappointing job figures last week along with low inflation in the U.S. In fact, the economic scenario is not going to improve in the third quarter earnings season. While China issues will lead the market turmoil across the globe, a persistent weakness in the energy sector and strengthening dollar will add to existing concerns. We also note that the consumer spending pattern is changing and consumers are not willing to spend despite benefiting from lower fuel prices and higher wages. While some are busy boosting their savings, some are burdened with higher health care costs and still-tightened credit availability. (Read: Top Ranked Retail ETFs for a Holiday Season Rally) In fact, there are many consumer staple stocks, which are still suffering from continued pressure in the face of limited consumer spending, foreign exchange headwinds and declining unit volumes. Other global issues including potential price wars, a competitive environment, political turmoil in Russia, sluggishness in Japan, and struggle in Europe continue to hinder the financial health of companies. Needless to say, the equity markets have become extremely volatile and the overall economic picture is quite weak. Given the defensive nature of this sector, it will outperform when equity markets are more bearish and underperform when bullish. The ups and downs of the sector due to the U.S. and global exposure can be played with a wide array of ETFs. The ETFs can act as an excellent investment medium for those who wish to take a long-term exposure within the consumer staples sector. For those interested in taking a look at consumer staples, we have highlighted a few ETFs tracking the industry, any of which could be an interesting pick: Consumer Staples Select Sector SPDR ETF (NYSEARCA: XLP ) : Launched on Dec 16, 1998, XLP is an ETF that seeks investment results corresponding to the S&P Consumer Staples Select Sector Index. This fund consists of 39 stocks of companies that manufacture and sell a range of branded consumer packaged goods. The top holdings include The Procter & Gamble Co. (NYSE: PG ), The Coca-Cola Company (NYSE: KO ) and Philip Morris International, Inc. (NYSE: PM ). The fund’s expense ratio is 0.15% and it pays out a dividend yield of 2.54%. XLP had about $7.794 billion in assets under management as of Oct 8, 2015. Vanguard Consumer Staples ETF (NYSEARCA: VDC ) : Initiated on Jan 26, 2004, VDC is an ETF that tracks the performance of the MSCI US Investable Market Consumer Staples 25/50 Index. It measures the investment return of large-, mid-, and small-cap U.S. stocks in the consumer staples sector. The fund has a total of 101 stocks, with the top three holdings being Procter & Gamble, Coca-Cola and PepsiCo, Inc. (NYSE: PEP ). It charges 0.12% in expense ratio, while the yield is 3.78% as of now. VDC managed to attract $2.48 billion in assets under management till Oct 9, 2015. First Trust Consumer Staples AlphaDEX ETF (NYSEARCA: FXG ) : FXG, launched on May 8, 2007, follows the equity index called StrataQuant Consumer Staples Index. FXG is made up of 39 consumer staples securities, with the top holdings being Archer-Daniels-Midland Company (NYSE: ADM ), Tyson Foods, Inc. (NYSE: TSN ) and The Kroger Co. (NYSE: KR ). The fund’s expense ratio is 0.67% and the dividend yield is 1.62%. It had $2.68 billion in assets under management as of Oct 9, 2015. Guggenheim S&P Equal Weight Consumer Staples ETF (NYSEARCA: RHS ) : Launched on Nov 1, 2006, RHS is an ETF that seeks investment results corresponding to the S&P 500 Equal Weight Index Consumer Staples. This is an equal-weighted fund and constitutes 37 stocks, with the top holdings being Molson Coors Brewing Co. (NYSE: TAP ), The Estee Lauder Companies, Inc. (NYSE: EL ) and Kimberly-Clark Corporation (NYSE: KMB ). The fund’s expense ratio is 0.40% and it pays out a dividend yield of 1.73%. RHS had about $361.8 million in assets under management as of Oct 9, 2015. Fidelity MSCI Consumer Staples Index ETF (FTSA) : FSTA, launched on Oct 21, 2013, is an ETF that seeks investment results corresponding to MSCI USA IMI Consumer Staples Index. This is a cap-weighted fund and constitutes 100 stocks, with the top holdings being Procter & Gamble, Coca-Cola and PepsiCo. The fund’s expense ratio is 0.12% and the dividend yield is 2.85%. FSTA had about $149.0 million in assets under management as of Oct 9, 2015. Link to the original post on Zacks.com

Happy 1-Year Birthday HDLV And Quarterly Rebalance: Altria Out, CME In

Summary HDLV has recently turned one year old and its performance since inception appears adequate, though data sources have been conflicting. The quarterly rebalance removed blue-chip favorites MO, VTR and ED, while introducing newcomers CME, PPL and WY. HDLV currently yields 9.7% on a 2x leveraged portfolio. HDLV: a one year review The ETRACS Monthly Pay 2xLeveraged US High Dividend Low Volatility ETN (NYSEARCA: HDLV ), incepted on Sep. 30, 2014, has recently turned one year old. Since inception, it (12.43%) has slightly underperformed two other 2x dividend ETNs, the Monthly Pay 2xLeveraged Dow Jones Select Dividend ETN (NYSEARCA: DVYL ) (13.66%) and the Monthly Pay 2xLeveraged S&P Dividend ETN (NYSEARCA: SDYL ) (12.72%), while outperforming the Monthly Reset 2xLeveraged S&P 500 Total Return ETN (NYSEARCA: SPLX ) (7.48%). Note that all of the 2x funds mentioned above reset their leverage monthly, rather than daily. The total return performances of the aforementioned fund since the inception of HDLV in Sep. 2014 are shown below, with the unlevered SPDR S&P 500 Trust ETF (NYSEARCA: SPY ) (4.96%) shown for comparison. HDLV Total Return Price data by YCharts In terms of volatility, HDLV appears to have done the worst out of all the 2x leveraged funds. This is disappointing because HDLV purports to hold stocks that show lower volatility than the broader market. Part of this could be due to HDLV’s heavy concentration in interest rate-sensitive sectors such as telecommunications and tobacco (refer to my HDLV update article ” 10%-Yielding HDLV May Be A Good Choice If Interest Rates Remain Low “), which moved together during the significant interest rate gyrations witnessed throughout this year. HDLV 30-Day Rolling Volatility data by YCharts Interestingly, InvestSpy gives different results on both total return and volatility. According to InvestSpy, HDLV has produced both the highest total return and lowest volatility out of the four 2x leveraged funds since inception (note that the high volatility of SPLX may be distorted by its lack of liquidity). Related to this, HDLV also shows the lowest beta and daily variation. Moreover, HDLV produced the lowest maximum drawdown out of the four 2x leveraged funds. Ticker Annualized Volatility Beta Daily VaR (99%) Max Drawdown Total Return HDLV 24.50% 1.19 3.60% -18.00% 17.10% SDYL 26.80% 1.39 3.90% -21.40% 14.10% DVYL 26.60% 1.5 3.90% -22.90% 14.70% SPLX 72.30% 1.46 10.60% -29.20% 10.20% I wanted to confirm the data using a third source of information, but unfortunately Morningstar does not give volatility data or Sharpe ratios on issues less than 3 years old. Therefore, depending on the source of data used, HDLV could either be ranked first or third out of the four 2x leveraged funds for total return, and either first or last in terms of volatility. This could be due to differences in the way that total return and volatility is calculated for the different data providers. HDLV has also recently just paid out its 12th dividend since inception, giving it a TTM yield of 9.7%. HDLV quarterly rebalance: Altria out, CME in As has been described in my previous article ” Higher Dividends With Less Risk (Part 2): A Second Look At ETRACS 2x US High Dividend Low Volatility ETN “, HDLV applies both dividend yield and volatility screens in selecting constituents. The selected constituents are then weighted according to average trading turnover, a factor that correlates closely with market capitalization. The result is a highly focused portfolio, with over 60% of the fund being concentrated in the Top 10 holdings. Given this high concentration of holdings, I believe that it is worthwhile to analyze individual additions and removals to the index when it is rebalanced each quarter in order to give some insight into the nature of the portfolio. The latest quarterly rebalance was performed last week, and allocates 60.21% of the index to the Top 10 holdings. The following table shows the Top 10 constituents of HDLV for the previous quarterly rebalance (Jul. 17, 2015) compared to the most recent rebalance (Oct. 16, 2015). Oct. 22, 2014 Jul. 17, 2015 Name Ticker Weighting / % Name Ticker Weighting Verizon Communications Inc. (NYSE: VZ ) 10.00 Verizon Communications Inc. VZ 10.00 AT&T Inc. (NYSE: T ) 10.00 AT&T Inc. T 10.00 Philip Morris International (NYSE: PM ) 8.87 Philip Morris International PM 9.60 Duke Energy Corp (NYSE: DUK ) 6.61 Altria Group Inc. MO 8.61 Southern Co (NYSE: SO ) 6.16 Duke Energy Corp DUK 6.82 Welltower (formerly Health Care REIT) (NYSE: HCN ) 4.11 Southern Co SO 5.87 CME Group Inc (NASDAQ: CME ) 4.11 Ventas Inc (NYSE: VTR ) 3.92 PPL Corp (NYSE: PPL ) 3.98 Health Care Reit Inc (now Welltower) HCN 3.72 HCP Inc (NYSE: HCP ) 3.51 Consolidated Edison Inc (NYSE: ED ) 3.44 Weyerhaeuser Co (NYSE: WY ) 2.86 HCP Inc 3.17 Top 10 total 60.21 65.15 What are the major changes in this rebalance? Key additions. CME, PPL and WY have entered the top 10, and were newly added to the fund this quarterly rebalancing review. Key removals. MO, VTR and ED were removed from the top 10, and from the fund altogether this quarterly rebalancing review. The removal of MO is particularly significant because this constituted 8.61% of the total weight of the fund. As an owner of HDLV, I was interested to find out why MO was removed while peer PM was not, why VTR was removed but peers HCN and HCP were not, and why ED was removed by peers DUK and SO were not. MO vs. PM Over the past 3 months, MO has significantly outpaced PM on a price basis. MO data by YCharts This has caused MO’s dividend yield to drop to around 3.5%. Thus, I believe that MO was excluded from the index because it was not among the top 80 names by dividend yield (amongst the top 200 largest US companies). MO Dividend Yield (TMM) data by YCharts VTR vs. HCN and HCP On a price only basis, VTR has performed comparably with HCN and HCP over the past 3 months. Its yield also sits between that of HCP and HCN. VTR Dividend Yield (TTM) data by YCharts Moreover, VTR’s volatility over the past 12 months has been similar to its peers – recall (from my previous article) that HDLV selects 40 of the lowest-volatility stocks out of the aforementioned 80. VTR 30-Day Rolling Volatility data by YCharts When considering market cap, VTR’s market cap is smaller than HCN’s, but larger than HCP’s, thus I do not think that this was the factor for exclusion. Therefore, I do not know why VTR was excluded from the newest edition of HDLV, while HCN and HCP were not. My suspicion is that Solactive, the index provider, did not account for VTR’s spin-off of Care Capital Properties (NYSE: CCP ) properly, leading to aberrant yield or volatility statistics that disqualified it for inclusion. If so, that is a disappointment because I feel that VTR deserves to be included in this fund, according to my analysis of the index guidelines. ED vs. DUK and SO ED has outperformed DUK and SO over the past 3 months. Similar to the situation with MO, ED could have been removed from its index due to its declining dividend yield. ED Dividend Yield (TMM) data by YCharts The new Top 10 additions, CME, PPL and WY have TTM yields of 4.3%, 4.3% and 4.1%, respectively, all higher than ED. Summary While the removal of blue-chip favorites such as MO and ED from the index can be disappointing to some, investors may be somewhat comforted by the fact that the fund is simply “selling high and buying low” as it removes companies whose price has appreciated to such an extent that their yield falls below the threshold, while replacing these with higher-yielding companies whose recent fortunes may not have been as auspicious. At the same time, the fact that only the top 200 U.S. companies by market cap are considered for selection may limit, but not entirely prevent, “falling knife” situations in which an incredibly high yield can be a predictor for an imminent dividend cut. While HDLV does not screen for dividend growers, it is noteworthy that all companies in their Top 10 have positive year-on-year dividend growth (PPL squeaks by with 0.3% 1-year DGR). Moreover, the decision to exclude MLPs from the index, in spite of the massive MLP bull market that occurred until collapse in late 2014, appears to be brilliant in hindsight. On the other hand, the removal of VTR appears, as far as I can tell, to be a mistake. In terms of portfolio concentration, I feel that this quarterly rebalance has improved the diversification of HDLV. The Top 10 holdings account for 60.21% of the portfolio, down from 65.15%. In the Top 10, there is now only 1 tobacco company instead of 2, and only 2 healthcare REITs instead of 3. This leaves room for the addition of CME, one of the largest options and futures exchanges, and WY, one of the world’s largest private owners of timberlands. Meanwhile, the addition of PPL to the Top 10 at the expense of ED would be considered a wash. In terms of performance since inception just over one year ago, HDLV has done either better or worse than two other 2x dividend ETNs, SDYL and DVYL, depending on whether YCharts or InvestSpy is used, while it has performed better than SPXL according to both data sources. Its volatility has either been the best or the worst among the four funds, depending again on which data is considered. Finally, HDLV’s TTM dividend yield is 9.7%, which is significantly higher than SDYL at 5.8% and DVYL at 7.6%.

New Jersey Resources: Next Year Is Key For Its Future

Summary The company is in a prime location, located near ample natural gas reserves. The company has not had a rate case filing in several years, leaving net income stagnant. Bottom line growth has instead come from the Energy Services business, which is non-regulated and prone to swings in profitability. New Jersey Resources (NYSE: NJR ) is a relatively under-followed energy holding company. The company’s primary business is regulated natural gas distribution to roughly 500,000 customers in New Jersey, but the company also has started to grow its pipeline and storage businesses and has built a small clean energy generation portfolio. Shares have rallied firmly the past year as the company has garnered some more exposure, but the company is still woefully under covered by analysts and retail investor ownership remains low. Is there an opportunity present to snap up shares before visibility inevitably improves? Location, Location, Location Low natural gas prices highly benefit New Jersey Resources. New Jersey is positioned right next door to the Marcellus/Utica shale, which has dramatically increased the natural gas reserve base available to all gas utilities in the Northeast, including New Jersey Resources. By extension, this means cheap natural gas prices for New Jersey Resources customers. Happy customers make for happy utilities as cheap prices for consumers reinforces support for the public utility commission to back any infrastructure investments the company wants to make. At the same time, the company’s other businesses (midstream/storage) are set to benefit as healthy demand growth increases demand for additional pipeline build out and storage availability. From a customer growth perspective, several locations in New Jersey are commutable to and from New York City or Philadelphia. As much as state residents seem to despise the state, proximity to some of the country’s top metropolitan areas will keep residents around, if begrudgingly. The state has maintained steady population growth over the past five years, in line with national averages. New Jersey Resources has done better than that, as the company operates in only three counties in New Jersey: Monmouth, Ocean, and Morris. (click to enlarge) * NJR Investor Presentation, Service Territory Breakdown New Jersey Resources appears to have its regulated downstream utility operations in ideal New Jersey locations. Ocean County has continued to be the population growth leader in New Jersey, posting healthy increases yearly. The company also has the opportunity to likely easily add roughly 50,000 existing New Jersey residents over the next few years, converting those that are still using propane/electricity for heating while being within or very near New Jersey Resources lines. Operating Results Revenue has largely been flat over the past five years due to falling natural gas prices. Like most natural gas utilities, the cost of natural gas is passed on to consumers through agreements with the public utility commission. High natural gas prices mean higher revenues but lower margins as the utility’s profit share per cubic foot sold is fixed. Compounding problems, New Jersey Resources has not had a base rate case filing in years. Base rate cases adjust the base rate charged to customers and are necessary when the utility has faced rising costs. Thankfully, this will change within the next few months, with the pre-hearing beginning in November. By early second half of next year, we should have a decision that should yield revenue increases for the company. Operational costs for New Jersey Resources have expanded since 2007 (the time of the last case) so the company should have an extremely straightforward filing. Operational cash flow has improved considerably in the past two years as New Jersey Resources recovered from some one-time charges that took place in 2012/2013. Operational cash flow expansion has primarily come from solid results from the Energy Services operating segment, which saw net income more than double. Energy Services takes advantage of pricing differences between regions or time periods, selling excess natural gas inventory when prices are high and building additional stock when prices are low, either through direct sales or through entering derivative contracts. In general, the more volatile natural gas prices are, the more profitable this division becomes. Poor performance in this division could cause future earnings volatility. I would prefer to see net income growth from regulated utility operations, which has only grown 1.3% since 2012. Unfortunately, we won’t see this until we see the results of the rate base case expansion. Debt has remained very low, with net debt of only $814M at the end of Q2 2015. Investors must keep in mind that New Jersey Resources does not generate much in the way of EBITDA currently ($200M in 2014) so leverage still exists even given the relatively low size of debt for a utility. Conclusion The upcoming rate case will be key to the company’s long-term success. Long term, the company will need the cash flow support from that base case. Shares trade expensively for a utility (12.79x EV/EBITDA, 18.5x 2016 EPS estimates) and a bulk of the earnings growth of the past few years has relied on a non-regulated Energy Services business that could prove volatile. Investors should be cautious and watch the rate case proceedings carefully.