Breaking down the utilities sector

E*TRADE from Morgan Stanley in collaboration with Morgan Stanley Wealth Management


Summary: The utilities sector represents resources that are always in demand (think: water, gas), and it’s typically used as a defensive play in a portfolio. We break down characteristics of the utilities sector and key investing considerations. 

One of 11 sectors in the S&P 500®, utilities is the category of companies that provides services for basic public needs such as gas, electric, and water (including sewage removal). It also includes companies that build and maintain the infrastructure needed to generate or distribute power, such as nuclear power plants and dams, as well as renewable sources. 

Potential benefits

The utilities sector represents resources that are in demand regardless of the economy’s condition—the need to heat our homes and have clean drinking water is universal and constant. This generally makes utilities a less cyclical sector, and a typical defensive play for portfolios. Companies in the utilities sector typically beat the market average for dividends and usually experience little volatility, making them a potential fit for investors nearing or in retirement, or on the hunt for return when interest rates are low.

Investors often look to utilities in periods of economic uncertainty or market volatility, and as a way to diversify holdings across sectors. 

Potential risks

There are some risks to consider when incorporating utilities into a portfolio. For investors seeking higher returns, the sector may not provide the growth potential they desire. Utility companies are costly to run because they rely on extensive infrastructure that needs frequent updating and continuous maintenance. Many carry large amounts of debt, making them sensitive to changes in interest rates. And they are now facing new and extreme challenges as weather trends shift and they become liable for more frequent repairs from fires, floods, and other natural disasters.

As with any investment, it's important to examine the fundamentals of a company or fund before investing. While utilities are regarded as a relatively stable sector, they are not immune to market swings.

Most investors will benefit from a diversified portfolio, with utilities as one component. Investors should consider their time horizon, risk tolerance, and financial goals when deciding what percentage of their portfolio to allocate toward utilities.

Pros Cons
Have tended to be steady dividend payers Limited growth potential
Have provided support to a portfolio in uncertain markets Interest-rate sensitive, may underperform in rising interest rate environment
Typically low volatility Extreme weather may put pressure on utility providers

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