Prepare for Rising Rates with These ETFs - ETF News And Commentary
September 06 2013 - 1:46PM
Zacks
A slew of positive
economic data in the last few days has led many market participants
to believe that the Fed will start tapering this month. On the
other hand, some analysts still think that there are a number of
factors that support the case for continuation in QE at current
levels.
While no one can actually predict whether they will or they will
not decide on tapering in the upcoming meeting, it appears that the
market has already priced in some tapering—about $10 to $15 billion
cut in the $85 billion monthly purchases. The actual timing is
somewhat irrelevant now—it may start in September, December or
early next year. (Read: 3 Cyclical ETFs for an Improving
Economy)
In anticipation of tapering, interest rates have moved up
significantly, the 10-year Treasury note yield touched 3%
yesterday—the highest since July 2011 and a sharp move from 1.6%
seen earlier this year. Rising rates have resulted in increasing
losses for bonds.
Bond Bear Market is Here; Realign Your
Portfolio
Considering that yields have surged too much, too soon, there is a
chance that they may come down slightly before going up again and
it is also likely that the next move up will not be as steep as the
current one. But one thing is absolutely clear—the 30 year bull run
in bonds is over. (Read: 3 Excellent ETFs for Dividend Growth)
Going by the performance of Barclays U.S. Aggregate Index, bond
market is on track to deliver its worst performance this year,
since 1994. It is not surprising that bond ETFs have seen massive
outflows in the past few months.
Investors seeking to have some exposure to bonds could consider
short-term bond funds, as the Fed has made it clear that short-term
rates will continue at near-zero levels for a long time. Some of
the popular ultrashort bond ETFs like Vanguard Short-Term Bond ETF
(BSV) have seen increased inflows of late.
Many investors have invested in floating rate loans funds as these
ETFs enable investors to earn a decent return, while reducing the
credit risk (being secured by liens on company assets) and
withstand rising interest rates without losing value (being
floating rate assets).
PowerShares Senior Loan ETF (BKLN) has been one of the top asset
gatherers among ETFs—with a $3.9 billion asset gain this year. The
product has not disappointed its investors; it has returned 2.2%
year-to-date, while yielding an attractive 4.7%.
Considering that corporate profits have been on the decline while
corporate leverage is now back to pre-crisis levels, investors may
like to keep an eye on their investments even though there are no
apparent warning signs in the space as of now. Companies below
investment grade ratings had $2 trillion of junk bonds and
leveraged loans outstanding in July, and will need to refinance
those at higher rates as rates rise.
Inverse bond ETFs like ProShares Ultrashort 20+ Year Treasury ETF
(TBT) are also becoming increasing popular with investors as they
provide an opportunity to profit from rising interest rates.
However investors need to remember that they are powerful but
complex tools and are not meant for long-term buy and hold
investors. (Read: 3 Biggest Mistakes of ETF
Investing)
Rising
Rates = An Improving Economy; Invest in Cyclical
Sectors
Many investors fear that
rising rates will kill the stock market rally, but the fact is that
the increase in rates reflects an improving economy and lower risk
of deflation—which are positive for stocks. While economy is
certainly not going to start growing at breakneck speed anytime in
near future, the overall economic picture continues to brighten
slowly.
Increase in interest rates are bad for stocks only when the central
bank raises them to combat inflation, which is not going to be the
case anytime in the near future.
There are some sectors that will benefit more in the improving
economic environment and this may be right time for investors to
start repositioning their portfolio with higher allocation to some
of the cyclical sectors like technology, industrials and energy
that have a better earnings growth outlook for 2014, compared to
the current year.
Some of the ETFs from these sectors like Industrial Select Sector
SPDR (XLI), Vanguard Information Technology ETF (VGT) are worth
considering. If the labor and housing markets continue to
recover, consumer discretionary and retail sectors may also
continue their outperformance. (Read:3 Top Ranked Consumer ETFs to
buy now)
Regional banks benefit in the current environment of rising
longer-term rates and steepening yield curve. Investors could look
at SPDR S&P Regional Banking ETF
(KRE).
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PWRSH-SNR LN PR (BKLN): ETF Research Reports
VANGD-SHT TRM B (BSV): ETF Research Reports
PRO-ULS L20+YRT (TBT): ETF Research Reports
VIPERS-INFO TEC (VGT): ETF Research Reports
SPDR-INDU SELS (XLI): ETF Research Reports
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