Valuing Your Energy Exposure for Growth

As investors consider their portfolio construction, targeting Energy through a tactical Natural Resources holding may help to mitigate the unintended risk of fluctuating Energy exposures.

A NEW ERA FOR ENERGY

As the calendar turns to 2023, some investors may notice that the recent shifts in the market may be affecting their portfolio weighting. Recently, S&P completed their annual reconstitution, which has highlighted a dramatic shift in the sector makeup of the S&P 500 Growth & Value indexes, with Energy’s weight shifting from Value (1.7%) to Growth (8.5%)1. Uniquely, S&P looks at price momentum as one of their growth metrics, in which Energy names screened very well in 2022. This has caused a swing in the Energy sector’s exposure, with essentially the sector flipping from Value to Growth.

GICS Energy % Long Rescaled 

/content/dam/ntflexshares/us/en/images/insights/valuing-energy-blog/NewEraForEnergyCSV2.csv

Source: Morningstar Direct.  Index performance returns do not reflect any management fees, transaction costs or expenses. It is not possible to invest directly in any index.

THE CASE FOR VALUE

Whether intended or not, some investors have historically gotten their Energy exposure via a Value factor approach. But with Energy recently becoming considered more of a Growth oriented investment, investors may discover an inadvertent underweight to Energy, altering some investors’ risk exposure. While Value finished a strong 2022 with the Russell 1000 Value outperforming Growth by 21.6%2, our research suggests that holding on to Value investments may still provide benefits. It’s not just a return pattern, another way to think of this is to look at fundamentals and valuations. In the figure below, you can see that while value outperformed in 2022, its fundamentals improved over the course of the year on a relative basis. We would anticipate that rising rates and lower economic growth expectations will continue to drive relative value outperformance.

Russell 1000 Value Minus Growth 

/content/dam/ntflexshares/us/en/images/insights/valuing-energy-blog/ValueVersusGrowth_EnergyBlog_edited.csv

Source:  FTSE-Russell. Index performance returns do not reflect any management fees, transaction costs or expenses. It is not possible to invest directly in any index. Earnings Per Share (EPS) is calculated by taking net profit and dividing it by the number of common shares outstanding.

MAINTAINING ENERGY EXPOSURE, A DIVERSIFIED APPROACH

Instead of shifting investments from Value to Growth, we believe there may be a case for a focused Natural Resources or Energy allocation. This may help investors target their Energy exposure more accurately. As investors consider their portfolio construction, targeting Energy through a tactical Natural Resources holding may help to mitigate the unintended risk of fluctuating exposures.

We have highlighted below some of our funds with a focused energy weighting.

energy weightings within four FlexShares Funds

/content/dam/ntflexshares/us/en/images/insights/valuing-energy-blog/EnergyExposure3.csv

Source:  Northern Trust. Energy weighting as of 1/17/2023.

FlexShares Global Upstream Natural Resources Index (GUNR) provides access to natural resources upstream in the production process, which may allow for a greater hedge against inflation in the space. The strategy also includes allocations to water and timber assets, which are often overlooked by competitors. FlexShares Global Broad Infrastructure Index (NFRA) provides exposure to the supply chain itself, as well as the broader logistics of movement of goods. FlexShares Real Assets Allocation Index (ASET) provides one-stop shopping for allocations to Natural Resources, Global Listed Infrastructure, and Global Real Estate. FlexShares High Yield Value-Scored Bond Index Fund (HYGV) seeks to provide investors the potential benefits of income diversification while focusing on value and quality issuers by tracking the Northern Trust High Yield Value-Scored US Corporate Bond Index (the Underlying Index), a custom index with what we believe is a unique multi-factor methodology.

DEFINITIONS

Northern Trust High Yield Value-Scored US Corporate Bond Index is designed to measure the performance of a diversified universe of high yield, US-dollar denominated bonds of companies exhibiting favorable fundamental qualities, market valuations and liquidity, as defined by Northern Trust Investments, Inc.’s proprietary scoring models.

Russell 1000® Growth Index measures the performance of the largecap growth segment of the US equity universe. The Russell 1000® Growth Index is constructed to provide a comprehensive and unbiased barometer for the large-cap growth segment.

Russell 1000® Value Index is an unmanaged index measuring the performance of those companies included in the Russell 1000 Index having lower price-to-book ratios and forecasted growth values.

S&P 500® Index is an unmanaged index consisting of 500 stocks and is a widely recognized common measure of the performance of the overall U.S. stock market.

S&P 500® Growth Index measures growth stocks using three factors: sales growth, the ratio of earnings change to price, and momentum. S&P Style Indices divide the complete market capitalization of each parent index into growth and value segments. Constituents are drawn from the S&P 500®.

S&P 500® Value Index measures value stocks using three factors: the ratios of book value, earnings, and sales to price.  S&P Style Indices divide the complete market capitalization of each parent index into growth and value segments.  Constituents are drawn from the S&P 500®.

FOOTNOTES

1 Source : S&P, https://www.spglobal.com/spdji/en/indices/equity

2 Source: Russell, https://www.ftserussell.com/products/indices/russell-us-style

Sign Up for Exclusive Access to Financial Professional Only Tools & Content

Related Content

07/14/2023

Using Multiple Investment Vehicles to Hedge Against Inflation

07/14/2023

Real Assets

Because there are multiple potential sources of inflation, multiple investment vehicles should be employed to hedge against them

02/15/2023

Building a Well Diversified Portfolio

02/15/2023

Real Assets

Inflation and high interest rates are now realities. Here are tips to help you build a well-diversified portfolio in these market conditions