McCall’s Call: Solid ETFs In Age Of Terror


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The most recent terror threat that was thwarted by intelligence agencies involved the shipment of explosives via cargo jets. This is just a long line of attempted terror plots against the U.S. ,and more specifically, the airline industry. It got me thinking about ETFs that are well positioned in this age of global terrorism.

The stock market took it all in stride last Friday as details of the plot were being released, which sort of surprised me because it was a close call. Typically stocks would sell off when such news hits the wires, especially heading into a weekend.

What did move was gold, which didn't surprise me. In uncertain times it's the one area investors almost always turn to. The SPDR Gold ETF (NYSEArca:GLD) gained 1 percent.

But beyond knee-jerk investor reactions to unsettling headlines about violent extremists, I want to lay out a few strategic ETF choices investors have at their disposal these days, notably those that canvass the defense industries. But first a little bit more about airlines and their resilience.

Airlines And Transport ETFs

One of the biggest risks of owning an airline ETF is the threat of a terror attack on a commercial flight.

Such an incident will not only kill innocent people, but will also have grave effects on future air traffic. It could set the industry back a decade. The same type of risk also exists with other means of transportation, and IYT will incur that added risk.

Indeed, even though the terrorist target was the transportation industry, the iShares Dow Jones Transportation Average Index Fund (NYSEArca:IYT) was up 0.4 percent on the day. Even more surprising is the fact that IYT continued to rally, closing two days later at its highest level in over two years.

The main target of the attack was FedEx ( FDX ) and United Parcel Service ( UPS ), which are in the top four holdings of IYT. Other than the delivery-service sector, the ETF also has exposure to railroads, trucking and airlines. It has a total of 21 stocks and an expense ratio of 0.47 percent.

The Guggenheim Airline ETF (NYSEArca:FAA) was down slightly the day of the terror scare (-0.3 percent), but similar to IYT, hit a new multiyear high in the next week. The ETF is heavily in U.S. airlines, such as United Continental Holdings ( UAL ) and Southwest Airlines ( LUV ). The U.S. makes up 75 percent of the allocation, and the expense ratio is 0.65 percent.

Perhaps it's the fact that the terrorists were thwarted that the market brushed it off. Or it could be that investors have become complacent regarding potential attacks, and therefore are numb to the news.

Defense ETFs

Other than gold and some forms of fixed income, the one sector that could help hedge a portfolio against potential terror threats is aerospace and defense.

The PowerShares Aerospace & Defense ETF (NYSEArca:PPA) and the iShares Dow Jones US Aerospace & Defense ETF (NYSEArca:IAT) both gained 0.2 percent that day of the terror threat and didn't experience a pickup in volume.

PPA is made up of a basket of 57 stocks that are related in that they are all tied to U.S. defense, homeland security and aerospace operations. The top holdings are the large-cap names in the sector:Boeing ( BA ), Honeywell International ( HON ) and United Technologies ( UTX ). The expense ratio is 0.60 percent, and the ETF's priced has climbed 6 percent this year.

IAT has only 32 stocks, but its top holdings are similar, with UTX and BA the No. 1 and No. 2 holdings, respectively. The one major difference is that HON, which is PPA's top holding, is not part of ITA. This may be one reason that ITA has been able to double the return of PPA year-to-date, gaining 12 percent. The expense ratio is 0.48 percent.

In reality, there's no true way to defend against the unknown. And honestly, if a terror attack were to occur ,the last thing on my mind would be my money. That said, investors could use ETFs such as IAT or PPA to lower the overall risk of their portfolio should some tragic attack actually occur.

Matthew D. McCall is editor of The ETF Bulletin and president of Penn Financial Group LLC, a Ridgewood, N.J.-based wealth management firm specializing in investment strategies using ETFs.

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Copyright ® 2010 Index Publications LLC . All Rights Reserved.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

This article appears in: Investing ETFs

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