After much deliberation, the Federal Reserve finally announced
the third round of quantitative easing or QE3, in an attempt to
facilitate consumption in the economy thereby creating more jobs.
The methodology utilized purchase of $40 billion worth of
mortgage backed securities per month while keeping the tenure
open-ended as a way to hopefully jumpstart the economy.
During this time, there were many products from the ETF space
which hogged the limelight with everybody talking about the
bullish impact of QE3 on these
ETFs
. These products were mostly 1) Commodity ETFs (particularly
precious metal ETFs), 2) Mortgage REIT ETFs, and 3) Long Term
Treasury ETFs.
The following table summarizes the absolute returns of some of
the products from each of the above mentioned space, post the
announcement of QE3 since all of these ETFs were expected to
outperform other genres of ETFs in this environment.
Table 1: ETF Returns Post QE3 announcement
|
ETF
|
Fund Type
|
Returns
|
|
GLD
|
Precious Metal (Gold)
|
1.01%
|
|
SLV
|
Precious Metal (Silver)
|
2.39%
|
|
MORT
|
Mortgage REIT
|
-7.63%
|
|
REM
|
Mortgage REIT
|
-8.73%
|
|
DBP
|
Precious Metal (Multiple)
|
1.13%
|
|
JJP
|
Precious Metal (Multiple)
|
0.60%
|
|
GLTR
|
Precious Metal (Multiple)
|
1.33%
|
|
VGLT
|
Long Term Treasury
|
2.16%
|
|
EDV
|
Long Term Treasury
|
3.08%
|
|
ZROZ
|
Long Term Treasury
|
3.22%
|
Data as of November 23
rd
2012
Although it has been just about three months since the
implementation of QE3, yet the performance analysis of these ETFs
reveal important factors. As indicated by Table 1, most of these
perceived
'outperformers'
have had mixed results so far. While some of them have lost
substantially, others are almost flat or have generated paltry
returns.
Precious Metals ETFs
Probably one of the biggest beneficiaries of the impact of QE3
was expected to be the precious metals asset class, particularly
Gold. As a result of the monetary easing, the U.S. dollar was
supposed to lose value thanks to the Fed's money printing spree.
This was perceived to pave the way for precious metals to be the
safer havens instead of the U.S dollar.
However, the performance of precious metals suggests that they
have clearly failed to live up to the hype. This is disappointing
especially considering certain events, apart from QE3, which were
supposed to push the price of the yellow metal upwards (read
Protect Against QE with these Precious Metal
ETFs
).
Emerging economies like India and China together account for a
majority of total global gold consumption. Thus, the
consumption demand
for gold in these economies is one of the major price drivers in
the global markets.
However, considering the conclusion of the festive season in
India where gold consumption is at its peak, the prices were
expected to climb upwards, which has clearly not happened.Also,
the
investment demand
for gold was expected to rise across the board given its safe
haven nature amidst global economic uncertainties.
Yet, the precious metal has disappointed on this front as
well. The largest and most popular Gold ETF, the
SPDR Gold Trust (
GLD
)
, has been almost flat since the announcement of QE3 and has
returned only 1% since then (see more in the
Zacks ETF Center
).
On the other hand, the
consumption demand
for
silver
has been on the rise as well, mainly thanks to its vast
industrial usage as opposed to its yellow counterpart. The
manufacturing data from the U.S. and China have been moving
higher as of late, due to the moderate recovery in the global
economy. As a result the industrial consumption of silver has
increased, mainly thanks to the Chinese demand, which has in turn
helped to push the prices up.
The
iShares Silver Trust (
SLV
)
has returned 2.30% since the announcement of QE3. Also, some
other precious metal funds like
PowerShares DB Precious Metals ETF (
DBP
)
which invests 80% of its assets in Gold and 20% in Silver has
been flat at 1.13%. Similarly the
iPath Dow Jones UBS Precious Metals Sub Index Total
Return ETN (
JJP
)
tracking 76% Gold and 24% silver has fetched 60 basis points for
the same time period primarily due to their concentrated focus on
gold.
Outlook
While the performance of the precious metals so far has been
disappointing, it is prudent to note that the quantitative easing
has yet to show its full effects. Also, with the fiscal cliff
issues looming large, the depreciation in the U.S. dollar as well
as paltry low yields of the Treasury bonds, it is inevitable that
gold is all set for a reversal in the near term.
Gold is expected to go back to being the ultimate safe haven,
especially with the fiscal cliff deadline less than a month away
from now (see
A New Breed of Gold ETFs on the Horizon?
).
Mortgage Real Estate Investment Trust (mREIT)
ETFs
The ETFs from this segment are especially known for their high
yields and stability and have been extremely popular given the
low interest rates and stock market volatility. These ETFs, like
their MLP and pure REIT counterparts, pay out 90% of their net
income as dividends in order to corporate level taxation - a fact
which explains the high dividend yields (read
MLP ETFs: Unfortunate Victims of The Fiscal
Cliff
).
REIT ETFs were perceived to be big gainers post QE3 as the
monetary easing was supposed to bring down yields further,
thereby making the higher yielding REIT space an attractive one.
However, the higher yielding asset classes, especially REIT and
MLP ETFs were victims of the huge sell-off after the U.S
presidential elections.
This was due to the uncertainties pertaining to the tax issues
on dividends as well as capital gains. Thus, investors rushed to
liquidate their position in order to be taxed at the current tax
rates.
As a result the
Market Vectors Mortgage REIT ETF (
MORT
)
and
iShares FTSE NAREIT Mortgage Plus Capped ETF (
REM
)
, two ETFs from the mortgage REIT space have slumped by 7.63% and
8.73% respectively.
However, both these ETFs had enjoyed a decent run till the
fiscal cliff panic sell-off post the presidential elections. MORT
and REM have a 12 month distribution yield of 9.91% and
11.91%.
Outlook
Although the higher yielding ETF space is all set to remain
volatile till the fiscal cliff situation is resolved and we have
clarity over tax issues, yet there is no denying the fact that
REIT ETFs are great options for income seeking investors in this
ultra low interest rate scenario.
Also, a possible increase in tax rates across the board could
be a blessing in disguise for the Mortgage REIT space, since REIT
ETFs are already taxed at ordinary income levels as capital gains
since the dividends from REIT and MLP ETFs are not taxed when the
distributions are made.
Therefore even if the tax rate does increase on an incremental
basis, mREIT ETFs will encounter relatively less tax rates than
most high yielding investment avenues making them far more
attractive investment avenues for income seeking investors.
With this backdrop it is prudent to note that once we have
some sort of transparency on the fiscal cliff, these high
yielding ETFs will be back in the limelight (see
Is the Panic Over for Mortgage REIT ETFs?
).
Long Term Treasury ETFs
Apart from the implementation of QE3, the Fed has also
extended
operation twist
which aims at reducing long term borrowing costs. Apart from its
positive consequences such as stimulation of, and facilitating
growth in the economy, it could also result in a Japan like
situation with stagnant growth rates and threats of
deflation.
Whatever the economic effects of such measures, it is quite
clear that Treasury bonds, especially the longer dated ones, have
benefited substantially despite their frustratingly low yields.
This has happened due to two primary reasons.
First,
these bonds have continued to act as the safe havens during the
severe market volatility over the past 18 months.
Second
, there is a negligible probability that interest rates will
increase in the near to medium term. Thus the possibility of
losses from these instruments due to their high duration is very
low, at least in the near term (see
Long Term Treasury ETFs: Ultimate QE3 Play?
).
In fact, ETFs from this space are among the biggest gainers
post the announcement of QE3. The
Vanguard Long Term Government Bond ETF (
VGLT
)
with effective duration of
16.48 years
,
Vanguard Extended Duration Treasury ETF (
EDV
)
, with effective duration of
26.30 years
and
PIMCO 25+ Year Zero Coupon U.S. Treasury ETF (
ZROZ
)
with an effective duration of
29.88 years
have returned
2.16%, 3.08% and 3.22%
in that time frame.
Outlook
Interest rates will clearly continue to be at depressed levels
for quite some time. Coupled with the clear deceleration in
corporate sector earnings in the third quarter earnings season
and the looming fiscal cliff - all of which are matters of
concern for the economy, long term Treasury ETFs will surely be
in high demand as the outlook for the riskier asset class is
pretty volatile if not completely bearish (read
3 ETFs To Prepare For The Fiscal Cliff
).
Also, given a probable dividend tax increase, the paltry
yields of these instruments will insulate them from paying more
taxes as these long term treasury ETFs are not expected to pay
much in the form of dividends thereby making them attractive
plays even if we fall off the cliff.
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PWRSH-DB P METL (DBP): ETF Research Reports
VANGD-EX DUR TR (EDV): ETF Research Reports
SPDR-GOLD TRUST (GLD): ETF Research Reports
ETFS-PH PRC MTL (GLTR): ETF Research Reports
IPATH-DJ-A PR M (JJP): ETF Research Reports
MKT VEC-MTGE RE (MORT): ETF Research Reports
ISHARS-F N MTG (REM): ETF Research Reports
ISHARS-SLVR TR (SLV): ETF Research Reports
VANGD-LT GOV BD (VGLT): ETF Research Reports
PIMCO-25Y ZERO (ZROZ): ETF Research Reports
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