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Time to Buy This High Ranked Consumer ETF?

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Heading into 2013, investors were pretty bearish on consumer stocks, and for good reason. Worries existed over the Euro zone economic crisis, sequestration, and the U.S. fiscal cliff, any of which could cause a disruption in the sector.

However, with improving U.S. economic indicators since the start of this year, the sector has not looked back. The sentiment was upbeat for the job and housing market, while fuel prices are below the year-ago level thanks to the strengthening of the dollar. Inflation was also contained at 1.4% as of May 2013, further helping the American consumer.

All these culminate to the general optimism in the sector and encourage consumers to buy more discretionary products and services, and statistics also bear out this relatively favorable trend. (Read: 3 Top Ranked Consumer ETFs to Buy Now). The Conference Board came out with its Consumer Confidence Index – a barometer of the U.S. consumer health – on June 25, 2013. The index improved by leaps and bounds consecutively in April, May and June.

The Index stood at 81.4, up from 74.3 in May, marking the five-year high level. Consumers remain optimistic on the country’s business outlook, indicating a bullish trend for the long term (Read: 3 Sector ETFs to Profit from Rising Rates).

Although the Fed chairman, Ben Bernanke, recently suggested that the Fed might scale down its easy money policy of $85 billion a month in bond purchases later this year and even end the program by 2014, the recent downward revision in the first-quarter U.S. economic growth figure raised a belief among investors that the Fed will not curtail its monetary stimulus any time soon.

Given these positive developments, a look at some of the top ranked ETFs in the space could be a good way to target the best of the segment with lower levels of risk. In order to do this, investors can look at the Zacks ETF Rank and find one of the top consumer ETFs out there.

About the Zacks ETF Rank

The Zacks ETF Rank provides a recommendation for the ETF in the context of our outlook for the underlying industry, sector, style box or asset class (Read: Zacks ETF Rank Guide). Our proprietary methodology also takes into account the risk preferences of investors. ETFs are ranked on a scale of 1 (Strong Buy) to 5 (Strong Sell) while they also receive one of three risk ratings, namely Low, Medium or High.

The aim of our models is to select the best ETFs within each risk category. We assign each ETF one of the five ranks within each risk bucket. Thus, the Zacks ETF Rank reflects the expected return of an ETF relative to other products with a similar level of risk.

For investors seeking to apply this methodology to their portfolio in the Energy sector, we have taken a closer look at the top ranked IYC. This ETF has a Zacks ETF Rank of 2 or ‘Buy’ (see the full list of top ranked ETFs) and is detailed below:

About IYC

Launched in June 2000, the iShares U.S. Consumer Services ETF (IYC) is a passively managed fund designed to track the performance of the Dow Jones U.S. Consumer Services Index, an index dominated by various consumer discretionary stocks.

The fund is a relatively popular Consumer Services ETF with more than $384 million in AUM. Holding 182 stocks in its basket, the product puts just about 40% of its total assets in the top 10 holdings, suggesting moderate concentration risk.

The sectors that the fund is more tilted towards include General Retailers and Media, as these two hold the lion’s share making up a combined 66.8% of the total investment.

Wal-Mart Stores Inc. (WMT - Free Report) , Walt Disney Co. (DIS - Free Report) and Home Depot Inc. (HD - Free Report) are its top three holdings with respective weights of 5.48%, 5.07% and 4.84%.  This choice is also an inexpensive one in the consumer services space with around 45 bps of annual fees. In fact, the fund has reduced its expense ratio by 2 bps in the last year. 

However, its daily trading volume of around 35,000 is quite light, especially when compared to some other famous consumer discretionary ETFs like Consumer Discretionary Select Sector SPDR Fund (XLY - Free Report) and SPDR S&P Retail ETF (XRT - Free Report) .

Capitalization-wise, the fund is most exposed to large cap securities with around 82% allocation followed by mid (12%) and small cap (5%) securities.  This strategy may curtail growth, but it does help to keep volatility low.

As such, we have a ‘Low’ risk outlook for IYC in the near term. However, being termed as low risk definitely does not mean low returns for the ETF, as evidenced by its recent outperformance. (read: Play a Consumer Recovery With These Discretionary ETFs).

With the U.S. market showing early signs recovery in the latter of 2012, IYC started to perform better and has been climbing in 2013, returning about 35.2% in the one-year period ending July 15, 2013 and about 22% in the year-to-date time frame. Over the last one-year period, the return from IYC outperformed the S&P/TSX Capped consumer discretionary index (31.1%) as well as the S&P 500 ETF (26%).

The product also pays an annual dividend yield of 1.11%. IYC hit a low of $78.67 and is currently right at its 52 week high.

Bottom Line

While the fund mainly rests its weight on the cyclical consumer sector, around 22% exposure to non-cyclical consumer sector should not be overlooked. The inclusion of non-cyclical stocks confirms sure-shot returns even during macroeconomic weakness.

Further, the underlying industries of the fund like travel and leisure, food and drug retails and of course some general retailers are currently progressing well, suggesting the fund is a decent play. In fact, despite a tilt towards growth, IYC offers low volatility and beta which suggest that it could lead the way ahead and be a solid consumer pick for many investors.

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