The Federal Reserve has raised interest rates another 0.75% for July in its fight against inflation. Todd Rosenbluth, head of research at VettaFi, appeared on Yahoo Finance’s “ETF Report” to discuss the hike and its impacts on ETFs.
This year has brought about a large rotation in money and allocations, with around $300 billion flowing out of fixed income mutual funds in the last seven months, with $90 billion of that reallocating to fixed income ETFs.
“Investors are taking advantage of tax-loss harvesting, they’re taking advantage of the lower cost, and they’re taking advantage of the ability to shift their exposure towards the less interest rate sensitive sides of the marketplace as well as taking on some credit risk with high yield,” Rosenbluth explained.
This can be seen in the records being experienced by some of the shorter duration bond ETFs: the iShares 0-5 Year Investment Grade Corporate Bond ETF (SLQD ) had its biggest day of inflows yesterday since the fund’s inception in 2013, bringing in $236 million. The fund seeks to provide downside protection from high-interest rates while also offering income opportunities from investment-grade corporate bonds.
While the 0.75% interest rate increase was largely expected, the commentary coming from the Fed has shifted slightly to indicate that an economic slowdown is beginning to be seen.
“I think what’s encouraging from the comments from J Powell is his expectations — and hopefully others as well — that we are going to avoid a recession, and if we’re going to avoid a recession then higher yield bond ETFs can make more sense in a portfolio,” said Rosenbluth.
High-yield bonds can offer greater income opportunities than other fixed income assets but carry with them a greater credit risk. Rosenbluth explained that research interest on the VettaFi platform has picked up around high yield ETFs, such as the XTrackers Low Beta High Yield Bond ETF (HYDW ) and the FlexShares High Yield Value-Scored US Bond Index Fund (HYGV ).
Tech Earnings and Understanding Sector Allocation
The discussion turned to earnings week and the reports coming from the tech sector in particular and what they mean for ETFs and investors.
“We’re seeing that the bar is relatively low,” said Rosenbluth. This sentiment is being demonstrated in “Alphabet having strong stock performance today despite having relatively weakness overall.”
Rosenbluth goes on to explain that within ETFs, sector classification is important when looking to invest in a particular company or theme. Alphabet and Meta fall within the communication services and are carried within the Communication Services Select Sector SPDR Fund (XLC ), while Microsoft and Apple are classified as technology sector and are carried within the Technology Select Sector SPDR Fund (XLK ).
“If you’re a sector ETF buyer, it really matters to know what’s inside the portfolio instead of just assuming these are all technology companies,” Rosenbluth explained. “We call them technology companies but from an index perspective it really is the devil in the details.”
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