A Better Way To Think About Energy ETFs

The energy sector and energy ETFs have had its share of thrills and spills this year. The Energy Select Sector SPDR XLE, the largest exchange traded fund devoted to that sector, is up 8.75% year to date even with a second-quarter decline of nearly 6%.

Investors could be doing better by focusing on the midstream segment of the energy patch.

Look at the Alerian Energy Infrastructure ETF ENFR, which is up nearly 17% this year. ENFR tracks the Alerian Midstream Energy Select Index and is designed to provide exposure to “midstream energy infrastructure companies, including corporations and master limited partnerships (MLPs), engaged in pipeline transportation, storage, and processing of energy commodities,” according to ALPS.

A primary advantage of ENFR is yield, as in it yields a lot more than XLE. ENFR's dividend yield of 5.18% is 173 basis points above the comparable yield on XLE.

“An MLP or midstream product will typically provide a greater yield than the majors or a broad energy sector product, while still providing energy exposure,” according to Alerian research. “Investment in an MLP or MLP-focused product may provide the added benefit of tax-deferred income.”

Why It's Important

Broadly speaking, the energy sector is not always viewed as defensive, but there are some members of the group that have defensive traits. By virtue of their heft, Exxon Mobil Corp. XOM and Chevron Corp. CVX, the two largest domestic oil companies and XLE's top two holdings, are defensive. ENFR constituents are defensive for other reasons.

“Midstream MLPs and C-Corps are defensive by nature of their business models, collecting a fee for each unit of energy transported, stored, or processed,” said Alerian. “This limits midstream’s exposure to commodity price fluctuations in terms of cash flows, though prices can impact sentiment.”

What's Next

As highlighted by the aforementioned dividend yield, ENFR is a credible income play even though some MLPs have pared payouts in recent years.

“That said, some midstream MLPs also boast lengthy track records for distribution increases, such as Enterprise Products Partners (EPD), which has grown its distribution for 20 straight years,” according to Alerian.

Enterprise Products is ENFR's third-largest component at a weight of almost 8%.

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