Author’s Note: This article was released to members of the CEF/ETF Income Laboratory on September 26.
A reader drew my attention to the Invesco S&P 500 Equal Weight Energy ETF (NYSEARCA: RYE), a, well, S&P 500 equal weight energy index ETF.
RYE provides investors with diversified exposure to the US energy industry, and provides a reasonable investment opportunity for energy bulls. RYE does significantly differ from the Energy Select Sector SPDR ETF (XLE), the industry benchmark, in most areas, including holdings and performance. RYE is a little more expensive, with an expense ratio of 0.40%, compared to 0.11% for XLE. As RYE does not differ significantly from XLE, but is a little more expensive, I would not invest in the fund at this time.
RYE – Basics
- Investment manager: Invesco
- Underlying Index: S&P 500 Equal Weight Energy Plus Index
- Dividend yield: 4.06%
- Expense ratio: 0.40%
- Total returns 10-year CAGR: 1.71%
RYE – Quick overview
RYE is an S&P 500 Equal Weight Energy Index ETF, which tracks the S&P 500 Equal Weight Energy Plus Index. The index invests in the 22 largest US energy companies Where across all energy components of the S&P 500, regardless of the largest group. As with most indices, there is a basic set of inclusion criteria, centered on liquidity, size, etc., as well as rules and caps intended to ensure diversification while minimizing turnover. This seems like a sensible index, and specifically structured to provide some diversification in a relatively undiversified industry.
RYE’s holdings include well-known energy giants like Exxon (XOM) and Chevron (CVX), as well as smaller companies including Targa Resources Corp. (TRGP) and APA Corporation (APA). RYE is focused on large caps, with smaller investments in mid caps and no current investments in small caps. The allowances are as follows.
RYE offers investors diversified exposure to US energy stocks. These stocks have benefited from the rise in oil prices, outperforming considerably since the start of the year.
Oil prices remain high, which should further boost growth. According to JP Morgan, US energy stocks are expected to grow earnings by 28.7% over the next twelve months, which is better than any industry and nearly three times the S&P 500 growth average of 9.6%.
Even though growth is soaring, valuations remain low. According to JP Morgan, energy is the cheapest industry on US stock markets by far. RYE itself sports a PE ratio of 8.2x and a PB ratio of 2.6x, two numbers lower than the S&P 500.
RYE’s investment thesis is quite simple: the fund offers investors diversified exposure to the US energy sector, which is undervalued, growing rapidly and has outperformed year-to-date. While this is a solid investment thesis, several funds offer investors a similar value proposition, including XLE. Although RYE’s investment thesis seems sufficiently clear and sound, it does not appear that the fund offers value or benefits. relative to XLE, while costing a bit more. Under these conditions, an investment in SEIG is difficult to justify.
Let’s compare these two funds in more depth.
RYE versus XLE – Holdings
RYE and XLE provide investors with diversified exposure to the US energy industry.
RYE currently invests in the 23 largest US energy companies.
XLE invests in all energy components of the S&P 500, currently 21 companies in total.
RYE currently invests in two more companies than XLE. RYE’s index construction ensures that the fund will always have an equal or greater number of holdings than XLE. As such, RYE is a slightly more diversified fund than XLE, but the difference is very small, all things considered. The two funds have almost completely overlapping holdings, with few differences.
Exxon and Chevron are relatively strong and resilient energy companies, and therefore tend to outperform the industry during downturns and recessions, much like XLE. The fund outperformed RYE during the first quarter of 2020, the most recent downturns, as expected. However, both funds significantly underperformed the S&P 500.
Other than the above, there are few differences between the holdings of RYE and XLE. Both funds offer diversified exposure to US energy stocks, hold more or less the same basket of stocks and have broadly similar security weightings in their portfolios.
Although the weights differ in some cases, these differences are most of little importance to the fund and its investors. Energy stocks are highly correlated and all highly dependent on energy prices, so all energy portfolios and stocks have similar performance.
RYE versus XLE – Performance
RYE and XLE are very similar funds, with similar strategies, portfolios, holdings and weightings. Performance should also be quite similar, as it usually is. The two funds have, for example, achieved almost identical performances over the past five years. The graph is striking.
There were, however, a few periods in which the performance between these two funds differed moderately. As an example, XLE outperformed from early 2017 to early 2020 as Chevron significantly outperformed the market over the same period.
XLE has moderately outperformed RYE since inception but, from what I’ve seen, the outperformance is concentrated in a few time frames. This means that XLE does not consistently outperform RYE.
RYE and XLE have broadly similar performance, although XLE is a bit stronger in this regard.
RYE vs. XLE – Dividend Yield and Growth
RYE’s 4.1% dividend yield is slightly higher than XLE’s 3.8% yield. XLE yields slightly less due to its overweight Exxon and Chevron, both of which have below average yields. RYE’s higher dividend yield is a relatively small benefit to the fund and its shareholders, but a benefit nonetheless.
Both funds have reasonably strong dividend growth histories, with a CAGR of nearly 10% over the past decade. Growth is accelerating, with both funds seeing dividend growth of +40% over the last twelve months. RYE’s dividends jumped more than 30% in the last quarter alone, a significant rate of growth, but one that could simply be due to the normal volatility of ETF dividends. RYE’s dividend growth track record is stronger if recent increases are sustainable, weaker if not/were due to volatility.
In any case, the two funds have similar yields and similar dividend growth histories.
RYE vs. XLE – Expense Ratio
RYE is a relatively expensive fund, with an expense ratio of 0.40%. While not an incredibly high expense ratio on an absolute basis, it is higher than the average for a simple equity index fund and better than XLE’s 0.11% expense ratio. .
RYE’s high expense ratio directly reduces shareholder returns and is negative for the fund and its shareholders.
In my opinion, RYE’s high expense ratio acts as a kind of tiebreaker between RYE and XLE. The two funds are incredibly similar, with broadly similar strategies, portfolios, holdings and weightings. There just aren’t many differences between the funds, and the differences that do exist don’t make one fund clearly superior to the other. As the two funds are very similar, I think choosing the cheaper one is the more sensible option, which means choosing XLE over RYE.
RYE offers investors diversified exposure to the US energy industry. Although there is nothing inherently wrong with the fund, it does not differ significantly from XLE in most important parameters, but it is somewhat more expensive. As such, I would not invest in the fund at this time.