Why XLU Could Be the Quiet Winner of the AI Power Boom

The 2025 narrative has been dominated by the artificial intelligence (AI) boom and the impending Federal Reserve rate-cutting cycle. That's kept tech, growth, and AI beneficiaries leading the equity market higher.

But it's another sector beating the S&P 500 (SNPINDEX: ^GSPC) this year that may be the most surprising of all: utilities. One of the market's most defensive groups shouldn't be outperforming when everything else is risk-on, right? But the Utilities Select Sector SPDR Fund (NYSEMKT: XLU) is an exchange-traded fund (ETF) benefiting from the utilities boom. It has about 30 holdings and "seeks to provide precise exposure to companies from the electric utilities; water utilities; multi-utilities, independent power and renewable electricity producers; and gas utility industries."

Image source: Getty Images.

Two catalysts driving the rally in utilities

A lot of investors think of utilities stocks as a place to go when the markets go south. Since everybody needs electricity and running water, the theory is that they'll hold up better when investors are in a sour mood and looking to remove risk from their portfolios.

This year, however, utilities are also doing well while the economy is expanding. In my opinion, there are two big reasons for this.

The first is demand. Under normal circumstances, there is steady demand for electricity, water, and other essentials. The AI boom, however, has created a structural change in the energy sector. The International Energy Agency (IEA) projects that electricity demand from global data centers tied to AI is likely to double by 2030. Furthermore, data centers are expected to be responsible for more than 20% of the growth in electricity demand between now and 2030.

That means the demand for energy, both traditional and renewable, is huge right now -- and utilities are at the center of it.

The second catalyst is interest rates. Utilities have some of the highest debt loads in the entire economy due to the need to constantly upgrade facilities and equipment. That makes them highly sensitive to changes in interest rates, since that can directly impact the cost of paying that debt. With rates falling throughout 2025 and the Fed likely to keep that trend into 2026, utilities are benefiting from fundamental improvement.

While these tailwinds are helping drive utilities higher as business conditions for them improve, the significant capital expenditure needed to meet rising energy demand remains an important risk to keep in mind. Deloitte expects that utility companies will need to spend $1.4 trillion between now and 2030 to handle the anticipated demand boom. If fuel, labor, and material costs rise, that will eat into margins.

Overall, however, lower interest rates are boosting earnings and increasing valuations, while growing demand for electrification in data centers is fueling growth. The narrative with utilities is definitely a positive one.

How this ETF can benefit from this trend

The Utilities Select Sector SPDR Fund provides exposure to S&P 500 companies that are engaged in electric, water, and gas utilities or independent power and renewable electricity production.

XLU's top holdings include NextEra Energy, Constellation Energy, Southern Company, Duke Energy, and American Electric Power. Just as we're seeing in the tech sector, the biggest names in the utilities industry have a good chance of being the biggest beneficiaries of AI trends. This ETF provides significant exposure to those names.

Many investors also use the utilities sector for its dividend component. Utilities stocks currently yield more than double that of the S&P 500. That can be attractive to income seekers, but it's actually the growth story that's a bit more compelling at the moment.

The Utilities Select Sector SPDR Fund remains a smart way to play the AI energy demand boom.

Should investors consider XLU?

Utilities make up less than 3% of the S&P 500 today. If you're only invested in broad indexes or tech, you may be missing this AI-driven angle. Adding an investment like XLU can help you get more exposure to the theme.

Core demand for power to drive AI technologies is a trend that doesn't look like it will be ending soon. The expectation for rate changes and investor sentiment are both tailwinds at the moment, but it's the buildout of AI infrastructure and the billions of dollars being committed to its development that are most likely to support the current uptrend.

Investors will want to keep an eye on energy demand trends. It seems unlikely that future forecasts will call for anything other than big electricity demand growth, but it's worth making sure that this trend remains intact.

For investors interested in this utilities opportunity, XLU provides targeted exposure that can help round out a tech-heavy portfolio.

David Dierking has no positions in any of the stocks mentioned. The Motley Fool has positions in and recommends Constellation Energy and NextEra Energy. The Motley Fool recommends Duke Energy. The Motley Fool has a disclosure policy.