The iShares Dow Jones Transportation Average Fund ETF In Focus (IYT, UNP, FDX, KSU)

Eric Dutram: The transportation industry occupies an important niche in the world market and includes movement of freight and passengers through different modes such as rail, trucks, ships, and air. It is highly competitive, capital intensive and depends largely on the global demand of exports and imports.

While growing industrial production, government infrastructure investments, mining activities, and increasing mergers and acquisitions would boost growth in this segment, capacity constraints, fuel price volatility, declining trades, ongoing turmoil in Europe, slowdown in emerging markets and stringent regulations might act as headwinds to the industry as a whole (read: Is It Time To Buy The Transportation ETFs?).

North America dominates the global growth in the space, and now, with another round of monetary stimulus measures to spur the economy, the nation is expected to register solid growth over the next few years.

This is important to transports because according to the Dow Theory, both transportation and industrial should certainly move to new highs when the market booms.

However, the transportation is still lagging the broad industrial sector (read: Three Industrial ETFs Outperforming XLI). The transportation sector, as depicted by the Dow Jones Transportation Average index, is down nearly 2% while the industrial sector, as indicated by the Dow Jones Industrial Average index, is up by about 10%.

This wide gap represents a huge upside potential in the transportation space, suggesting that investors could capitalize on the current opportunity. This can be easily done by investing in the iShares Dow Jones Transportation Average Fund (IYT), which is a #1 Zacks ETF Rank (Strong Buy) fund.

We expect it to outperform its peers with a similar (medium) risk level over the next year (see more ETFs in the Zacks ETF Center). Given this, the product could be worth a closer look by investors seeking exposure to this important sector.

About the Zacks ETF Rank

The Zacks ETF Rank provides a recommendation for the ETF in the context of our outlook for the underlying industry, sector, style box, or asset class. Our proprietary methodology also takes into account the risk preferences of investors. ETFs are ranked on a scale of 1 (Strong Buy) to 5 (Strong Sell) while they also receive one of three risk ratings, namely Low, Medium, or High.

The aim of our models is to select the best ETFs within each risk category. We assign each ETF one of five ranks within each risk bucket. Thus, the Zacks Rank reflects the expected return of an ETF relative to other products with a similar level of risk.

For investors seeking to apply this methodology to their portfolio in the U.S. transportation market, we have taken a closer look at the top ranked IYT below:

iShares Dow Jones Transportation Average Fund (NYSEARCA:IYT)

This fund, launched in October 2003, is the most popular ETF in the space and seeks to match the price and yield of the Dow Jones Transportation Average Index, before fees and expenses.

IYT generated impressive returns of more than 35% over the past three years. In comparison, IYJ, which tracks the Dow Jones U.S. Industrials Index, produced more than 51% of returns over the same period (read: Zacks #1 Ranked Industrial ETF: IYJ).

The fund holds 21 securities in the basket with a nice mixture of all caps. Large cap stocks account for 40% of the assets while mid and small caps take 29% and 31% share, respectively.

The product is heavily exposed to the railroad and trucking industry as this segment makes up nearly half of the portfolio. Airfreight and logistics takes the second position in the basket, accounting for roughly 27% of exposure, followed by airlines, which make up for only 12% share (read: Is It Time to Buy The Airline ETF (FAA)?).

The fund is not widely spread across individual securities, as it puts around 70% of its assets in the top 10 holdings. Union Pacific (NYSE:UNP), FedEx (NYSE:FDX) and Kansas City Southern (NYSE:KSU) take the top spots in the basket and combined make up for 29% share. This suggests that company-specific risk is high in the case of IYT and the top 10 holdings dominate the returns of the fund.

About half of the fund’s portfolio has a growth style, which means the securities in the fund target the growing segment of the market. The growth fund arguably offers above-average revenue and earnings growth with high price-to-equity (P/E) and price-to-book (P/B) ratios but yield lower than the value and blend counterparts. The ETF has a P/E ratio of 17.58 and P/B ratio of 3.72.

Growth funds also increase more than the other funds in bull markets, although they also fall more drastically in bearish times (read: Three Best Performing Small Cap Growth ETFs). Since many are looking for a modest recovery, growth funds seem like a decent choice for those expecting a return to market health in the fourth quarter.

The ETF is widely traded in average daily volumes of more than 400,000 shares, ensuring that the product has a tight bid ask spread. Despite this, the product has a relatively high expense ratio, coming in at 47 bps a year.

IYT has been able to manage assets of $544.4 million but lost around 2% value so far in the year (as of October 31st). The fund yields a decent dividend of 1.56% annually.

Written By Eric Dutram From Zacks Investment Research  

In 1978, Len Zacks discovered the power of earnings estimates revisions to enable profitable investment decisions. Today, that discovery is still the heart of the Zacks Rank, a peerless stock rating system whose Strong Buy recommendation has an average return of 26% per year.

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