Back to top

Image: Bigstock

5 ETFs to Add As Yield Curve Signals Recession

Read MoreHide Full Article

Wall Street staged strong comeback lately after a few weeks of tumultuous trading. Meanwhile, the U.S. Treasury bond yield curve inverted for the first time in three years, signaling U.S. recession. This means that the yield on the two-year Treasury note was higher than that of the 10-year note.

Against such a backdrop, investors should stash their cash in some conventionally secure and recession-proof corners of the broad market. Utilities Select Sector SPDR (XLU - Free Report) , iShares U.S. Healthcare Providers ETF (IHF - Free Report) , Vanguard Consumer Staples ETF (VDC - Free Report) , Vanguard Dividend Appreciation ETF (VIG - Free Report) and iShares Edge MSCI USA Quality Factor ETF (QUAL - Free Report) look like excellent choices amid recession warnings.

The curve is flattening as investors are betting on faster and deeper Federal Reserve rate hikes while at the same time worrying about near-term growth prospects in the world's biggest economy. After raising rates by 25 bps in the latest FOMC meeting, the Fed is expected to follow a more aggressive path in raising rates to fight the 10-year high inflation. The current pricing suggests a 0.5% bps hike in May and a cumulative boost of 2.5% to benchmark rates through the end of the year, from the near-zero level at the start of 2022 (read: ETFs to Buy on Latest Fed Rate Hike and More Hereafter).

Fed funds futures traders expect the Fed's benchmark rate to rise to 2.60% by February from the current 0.33% According to the CME Group's FedWatch, traders are betting on half-point moves higher in the Fed Funds rate at the next three Fed meetings in May, June and July.

On the other hand, the war in Ukraine and new coronavirus restrictions in China have raised the risk of a prolonged global supply chain trouble, thereby leading to slower economic growth.

We have profiled the above-mentioned ETFs below:

Utilities Select Sector SPDR (XLU - Free Report)

Being the low-beta sector, utility is relatively protected from large swings (ups and downs) in the stock market and is thus, considered a defensive investment or safe haven amid economic or political turmoil. While there are several options in the space, the ultra-popular XLU seems a good bet. With AUM of $14.4 billion, Utilities Select Sector SPDR seeks to provide exposure to companies from the electric utility, water utility, multi-utility, independent power and renewable electricity producers, and gas utility industries. It follows the Utilities Select Sector Index, holding 29 stocks in its basket. Electric utilities takes the top spot in terms of sectors at 63.1%, closely followed by multi utilities (29.3%).

Utilities Select Sector SPDR charges 10 bps in annual fees and sees a heavy volume of around 19.3 million shares on average. It has a Zacks ETF Rank #3 (Hold) with a Medium risk outlook (read: 5 Sector ETFs to Play if Russia-Ukraine Geopolitics Rule).

iShares U.S. Healthcare Providers ETF (IHF - Free Report)

Healthcare, which generally outperforms during periods of low growth and high uncertainty, will see huge investor interest due its non-cyclical nature. The demand for healthcare services remains intact even in the deteriorating economic fundamentals. iShares U.S. Healthcare Providers ETF follows the Dow Jones U.S. Select Healthcare Providers Index with exposure to companies that provide health insurance, diagnostics and specialized treatment.

In total, iShares U.S. Healthcare Providers ETF holds 71 securities in its basket and has amassed $1.3 billion in its asset base. Volume is good at about 27,000 shares per day on average. The product charges 42 bps in annual fees and has a Zacks ETF Rank #3 with a Medium risk outlook.

Vanguard Consumer Staples ETF (VDC - Free Report)

The consumer staples sector is viewed as defensive as it includes a variety of items like food & beverages, non-durable household goods, hypermarkets and consumer supercenters that are essential for daily needs. These products see steady demand even during an economic downturn due to their low level of correlation with economic cycles. Vanguard Consumer Staples ETF targets the broad consumer staples by tracking the MSCI US Investable Market Consumer Staples 25/50 Index. It holds 99 stocks in its basket and is widely spread across household products, soft drinks, packaged foods & meats and hypermarkets & supercenters that make up for a double-digit allocation each (read: 5 Defensive ETF Bets to Tackle the Current Market Carnage).

Vanguard Consumer Staples ETF manages a $6.7 billion asset base and charges a fee of 10 bps per year. VDC trades in a good volume of around 205,000 shares per day on average and has a Zacks ETF Rank #3 with a Medium risk outlook.

Vanguard Dividend Appreciation ETF (VIG - Free Report)

Dividend-paying securities are the major sources of consistent income for investors when returns from the equity market are at risk. Dividend-focused products offer safety in the form of payouts while at the same time providing stability as mature companies are less volatile to large swings in stock prices. This is because the companies that pay dividends generally act as a hedge against economic uncertainty and provide downside protection by offering outsized payouts or sizable yields on a regular basis. Vanguard Dividend Appreciation ETF is the largest and the most popular ETF in the dividend space, with AUM of $66.9 billion and an average daily volume of 2 million shares.

Vanguard Dividend Appreciation ETF follows the S&P U.S. Dividend Growers Index, which is composed of companies that have a record of increasing dividends over time. It holds 267 securities in the basket and charges 6 bps in annual fees. The product has a Zacks ETF Rank #1 (Strong Buy) with a Medium risk outlook.

iShares MSCI USA Quality Factor ETF (QUAL - Free Report)

Quality stocks are rich in value characteristics with a healthy balance sheet, high return on capital, low volatility, elevated margins, and a track record of stable or rising sales and earnings growth. These products thus reduce volatility when compared to plain vanilla funds and hold up rather well during market swings. iShares MSCI USA Quality Factor ETF provides exposure to large and mid-cap stocks exhibiting positive fundamentals (high return on equity, stable year-over-year earnings growth and low financial leverage) by tracking the MSCI USA Sector Neutral Quality Index (read: Can Quality ETFs be Good Bets as Russia-Ukraine Tensions Rise?).

iShares MSCI USA Quality Factor ETF holds 124 securities in its basket and trade in an average daily volume of 1.7 million shares. The ETF charges 15 bps in annual fees.