What Is a Sector ETF, How Do You Invest in One?

What Is a Sector ETF?

A sector exchange-traded fund (ETF) is a pooled investment vehicle that invests specifically in the stocks and securities of a particular industry or sector, typically identified in the fund's title. For instance, a sector ETF may track a representative basket of energy stocks or technology stocks.

Understanding Sector ETFs

Sector ETFs have become popular among investors and can be used for hedging and speculating. Their high level of liquidity means that there are rarely any large tracking errors from the underlying index, even during intraday trading.

Most sector ETFs focus on U.S.-based stocks, but some invest globally to capture the worldwide performance of the sector. Assets are passively managed around an underlying index. Some funds use indexes provided by data services such as Standard and Poor’s and Dow Jones. Leveraged sector ETFs are also available, which aim to achieve double the return of the underlying index, both on advancing and declining trading days.

An ETF, or exchange-traded fund, is a marketable security that tracks an index, a commodity, bonds, or a basket of assets like an index fund. Unlike mutual funds, an ETF trades like a common stock on a stock exchange.

ETFs experience price changes throughout the day as they are bought and sold. ETFs typically have higher daily liquidity and lower fees than mutual fund shares, making them an attractive alternative for individual investors.

By owning an ETF, investors get the diversification of an index fund as well as the ability to sell short, buy on margin, and purchase as little as one share. Another advantage is that the expense ratios for most ETFs are lower than those of the average mutual fund. When buying and selling ETFs, investors have to pay the same commission to a broker that they'd pay on any regular order.

GICS Sectors

Sectors typically are considered to be broad classifications. Within each sector, numerous sub-sectors and industries can be further delineated. The Global Industry Classification Standard (GICS) is the primary financial industry standard for defining sector classifications. There are several ETFs that track benchmark indices in these sectors.

GICS was developed by index providers MSCI and S&P. Its hierarchy begins with 11 sectors, which can be further delineated into 25 industry groups, 74 industries, and 163 sub-industries. It follows a coding system that assigns a code from each grouping to every company publicly traded in the market. The GICS coding system is integrated throughout the industry, allowing for detailed reporting and stock screening through financial technology.

Examples of Sector ETFs

Here are the 11 broad GICS sectors commonly used for sector breakdown reporting. Next to each sector is the ticker symbol for a corresponding sector ETF. More than one ETF exists for each sector.

• Energy: XLE
• Materials: XLB
• Industrials: XLI
• Consumer Discretionary: XLY
• Consumer Staples: XLP
• Healthcare: XLV
• Financials: XLF
• Information Technology: SMH
• Communication Services: XTL
• Utilities: XLU
• Real Estate: IYR

The Bottom Line

Sector ETFs are a great way to gain exposure to a specific sector without having to spend time researching and buying individual stocks. Sector ETFs provide broad exposure and diversification, generally at a low cost.