If you’ve considered putting a portion of your portfolio in the Industrials sector, I’d like to demonstrate how I came up with what I believe are the best ETFs in this sector. But, before I get into the performance of the Industrials sector ETFs, I’d like to give a brief description of it. Because many ETFs can be classified into more than one sector, I have settled on using Morningstar’s categories in determining what sector an ETF belongs in. Morningstar describes the Industrial sector as: “Companies that manufacture machinery, hand-held tools and industrial products. This sector also includes aerospace and defense firms as well as companies engaged in transportation and logistics services. Companies in this sector include 3M, Boeing and Siemens.” Now, let’s move on to performance.
The oldest Industrial Sector ETF available is the Industrial Select Sector SPDR® Fund (XLI). XLI’s inception date was 12/16/1998. By using this ETF, we can back-test this sector with nearly 20 years of data and see how this it has held up through two major market downturns.
XLI vs. S&P 500 January 1999 – December 2017
Source: Portfolio Visualizer
As you can see in the chart above, the Industrials sector was not immune to the bear markets of 2001 or 2008, but it held up well and was able to outperform the S&P 500 by 1.94% CAGR during that time-frame. Owning this sector looks like it can add Alpha to an equity portfolio, but the correlation to the U.S. Stock Market is relatively high at 0.88. A $10k investment in XLI made in January 1999 would have produced $12,627 more returns than if the same amount had been invested in an S&P 500 index fund.
Currently, ETFdb.com is showing that there are about 35 ETFs available in the Industrials sector. For the sake of this article, I have reduced that number to 11 by dropping the leveraged ETFs and removing any ETF that is younger than 10 years old.
Source: Scottrade
Utilizing the back-testing tools at Portfolio Visualizer I compared the performance of each of the 11 ETFs in the above list head-to-head. Eight of the 11 ETFs had positive Alpha over the S&P 500 index. Expense ratios ranged from 0.10% (VIS) to 0.93% (EVX). The oldest ETF compared was XLI (1999) and the newest was FXR (2007). The distribution yields ranged from 0.60% (PRN) to 1.77% (XLI).
ITA vs. PPA vs. RGI vs. XLI December 2006 through December 2017
Source: Portfolio Visualizer
I performed the same back-test as seen above with all 11 ETFs and determined that these three ETFs were the superior performers:
1. ITA – iShares U.S. Aerospace & Defense ETF
2. PPA – PowerShares Aerospace & Defense Portfolio
3. RGI – Guggenheim S&P 500® Equal Weight Industrials ETF
It is readily apparent that both ITA & PPA are not pure-play industrial ETFs. They track a sub-sector of the Industrials sector called Aerospace & Defense. RGI tracks an equal weight index of the Industrials sector. To get a better understanding of the indexes that these ETFs track I have gone straight to fund family’s webpages to get their investment objective.
1. ITA – The iShares U.S. Aerospace & Defense ETF seeks to track the investment results of an index composed of U.S. equities in the aerospace and defense sector.
2. PPA – The PowerShares Aerospace & Defense Portfolio (Fund) is based on the SPADE™ Defense Index (Index). The Fund will normally invest at least 90% of its total assets in common stocks that comprise the Index. The Index is designed to identify a group of companies involved in the development, manufacturing, operations and support of US defense, homeland security and aerospace operations. The Fund and the Index are rebalanced and reconstituted quarterly.
3. RGI – Seeks to replicate as closely as possible, before fees and expenses, the performance of the S&P 500® Equal Weight Industrials Index.
Source data: fund family websites
Additional information on ITA, PPA & RGI
Source: ETFdb.com as of 1/20/2018
Armed with this data and these resources, we can make an informed decision on whether to allocate a portion of our portfolios to the Industrials sector. I believe investing in this sector can add positive Alpha to an equity portfolio.
Disclosure: We do not own any funds mentioned in this article. We do intend to invest in ITA in the future, but not within the next 72 hours. I am not a financial advisor. Please do your own due diligence or seek the assistance of a registered investment advisor.
Thank you for taking the time to read this article. Please feel free to share it.
Respectfully yours, Micah McDonald, aka the Deep Value ETF Accumulator