Sector Rotation Strategies Boost Popularity Of Sector ETFs

Parse through the top asset-gathering, equity-based exchange-traded funds for a particular year, and it is unlikely that multiple sector funds appear, but that anecdote belies the rising popularity of sector ETFs.

Sector ETFs have gained popularity among advisors and investors looking for more concentrated, tactical ways to gain long equity exposure. Additionally, a growing number of ETF strategists that employ sector rotation strategies have bolstered sector ETFs' popularity.

Sector investing through sector-tracking ETFs has surged in popularity in the last few years as investors seek a more focused alternative the broad brush investment approaches of passive index tracking while maintaining a level of easily available diversification that has made ETFs so popular. US sector ETFs, which manage around 90 percent of all sector based ETF assets, saw their AUM base surge to a record $277 billion at the end of last year. This represents a doubling of the asset base managed by the roughly 300 such funds since the end of 2011, said Markit in a new note.

Popular Sector ETF Names

With investors favoring conservative fare to start 2016, the Utilities SPDR (ETF) (NYSE:XLU) is one of the top 10 asset-gathering ETFs, and the Consumer Staples Select Sect. SPDR (ETF) (NYSE:XLP) is not far off that space.

In a sign that some investors insist on searching for a bottom in the oil patch, the Energy Select Sector SPDR (EF) (NYSE:XLE) has also been a prolific asset gatherer this year.

Conversely, a flatter yield curve and speculation that the Federal Reserve will not raise interest rates as many times as previously expected this year, if at all, has prompted investors to depart the Select Sector Financial Slct Str SPDR Fd (NYSE:XLF) and rival bank ETFs. Despite the ascent of some well-known tech companies to the ranks of the world's largest companies, investors have also redeemed shares of the Technology SPDR (ETF) (NYSE:XLK).

Throughout 2015, investors favored the higher growth segments of the market: Consumer Discretionary, Health Care, and Technology. As the tide turned, however, past winners were sold in favor of the more defensive areas of the market such as Utilities and Staples. The only outlier in this rotation has been the persistent interest in the Energy sector, which amassed the most inflows in January with $1.1 billion but also had a 2 percent increase in short interest during the month, said State Street Vice President David Mazza in a note.

2015 In Review

Over the past year, only six of 11 sectors (counting real estate as a sector) tracked by ETFs have seen inflows, though outflows from telecom ETFs have been modest, according to State Street data. The good news is that combined inflows to energy and healthcare ETFs over that period exceed combined outflows from sector ETFs that lost assets.

The rising popularity of sector ETFs has also seen a growth in sector rotation plays as investors shift positions between products. This is evidenced in the first five trading weeks of the year where investors withdrew a net $5.5 billion from funds. While these outflows are significant, the gross fund flows between sectors were nearly twice as high at $9.5 billion. Essentially, the net fund flows in and out sector funds hide a large part of the views expressed by investors through sector ETFs, added Markit.

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