Sector ETFs During The Correction: XLE Slides, XLP Holds Ground

by on May 27, 2010 | ETFs Mentioned:

Recent weeks have highlighted the “new normal” in the investing world, as concerns of a debt crisis in Europe have rippled throughout the global economy. On Wall Street, developments in the streets of Athens and the German Bundestag have trumped more local economic indicators, as U.S. markets have taken their cues from across the pond in recent weeks. The extent to which global equity markets are now interconnected has frustrated investors who have watched a wave of general risk aversion pummel assets not related to the recent turmoil in Europe (see Six ETFs To Watch As The Greek Drama Unfolds).

Ticker Sector %
XLE Energy -16.5%
XLF Financial -14.4%
XLB Materials -14.0%
XLI Industrials -12.4%
XLK Technology -12.4%
XLY Consumer Discretionary -11.0%
XLV Health Care -9.3%
XLU Utilities -7.9%
XLP Consumer Staples -7.4%

Correlations may have shot towards 1.0 in recent years, but recent weeks have shown that even within the U.S. economy, different sectors can deliver wildly different returns during tumultuous stretches. A quick look at the performance of the nine sector SPDRs since the S&P 500 hit its 2010 high in late April reveals a significant gap between the best and worst performers.

The Biggest Losers: Energy & Financials

The sectors hit the hardest over the last month include two that could face an adverse regulatory environment in coming months; the Energy SPDR (XLE) is down 16.5% since April 23 while the Financial SPDR (XLF) has lost 14.4%. British oil giant BP isn’t a component of XLE, but the recent fiasco in the Gulf of Mexico has dragged down the entire energy sector. As public outrage over the inability to plug the flow of crude into the ocean rises, so have expectations for increasingly harsh regulations to prevent a similar disaster in the future (see Oil ETFs In Focus As “Top Kill” Begins).

The financial sector has also been hammered by developments in Washington over the last month. Comprehensive reform of the financial sector seemed impossible not that long ago, but significant progress has been made towards a bill that would change the way Wall Street banks do business. By some accounts, the piece of legislation now floating around Capitol Hill could share off as much as 20% of big bank profits (see Why Reform Bill Boosted XLF). The prospect of this scenario has weighed on the sector since the correction began; XLF is off nearly 15% in a month (see all ETFs in the Financial Equities ETFdb Category).

Utilities & Staples: Holding “Steady”

The best performers during the recent pullback won’t surprise anyone; utilities and consumer staples have lost the least ground over the last four weeks. These sectors have historically been among the least volatile, delivering the smallest gains in bull markets and the smallest losses in bear markets. Although both XLU and XLP have lost more than 7% of their value over the last five weeks, they have fared significantly better than most other corners of the U.S. economy over that time period.

Correlations between global equity markets may be higher than ever, but recent weeks have shown that effective sector rotation strategies can have a major impact on portfolio returns.

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Disclosure: No positions at time of writing.