3 Best Defensive Funds to Protect Your Portfolio

By Kent Thune, InvestorPlace Contributor

The best time to prepare for a bear market is before it begins, and an ideal tool for strengthening your portfolio is with defensive funds. Having the unique vantage point of being both a money manager and a resident of coastal Carolina in the midst of hurricane season, I know all too well that being ready for the storm in advance is the prudent position!

Unfortunately, with big stock market storms, there is no advance warning to evacuate. And making matters more challenging with navigating the capital markets, there are many false signals and starts to a new direction for stock prices. No one wants to build Noah’s Ark and sit there for months or years before the flood while everyone else enjoys the sunshine of a relentless bull market.

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Therefore, the best defensive funds are those that invest in sectors that can provide decent returns in the latter stage of a bull market but also minimize losses when the bear is in full swing.

Here are 3 defensive stock ETFs to strengthen you portfolio now:

Healthcare SPDR (XLV)

Healthcare was a top-performing sector in 2013 and is a leader in 2014 but that performance doesn’t mean that the gains have already been put in for this sector. Healthcare Select Sector SPDR (XLV) has a good combination of health stocks from sub-sectors, such as big pharmaceuticals, hospitals and managed care, that are classic defensive stocks.

People still need their medication and doctors in bear markets and recessions, which makes healthcare ETFs great defensive funds. And if you are concerned about the volatile bio-technology sub-sector, you won’t be overexposed with XLV.

With an inception year of 1998, a manager tenure of 9 years, and assets under management of $10 billion, XLV provides the track record and price stability that wise ETF investors prefer. The low expense ratio of 0.16% adds another layer of health to this defensive sector ETF.

Vanguard Utilities ETF (VPU)

Utilities is another sector that can provide decent returns in the late phase of a bull market and minimize losses during the worst of a bear. And Vanguard Utilities ETF (VPU) is an outstanding choice to fill this defensive space. Who’s going to turn off their water, gas and electric during tough times? Consumers will cut back on their lattes before cutting off their power.

Year-to-date 2014, VPU is up 5.8% — ahead of the S&P 500′s modest 3.4% gain. To give you an idea of its protective power in a bear market, VPU fell -23.1% in the most recent bear of 2008, compared to a decline of -37% for the S&P 500.

With VPU, you’ll also get Vanguard’s outstanding index-tracking expertise and their low expense ratios: VLP’s is 0.14%.

Consumer Staples Select Sector SPDR (XLP)

The idea behind consumer staples as a defensive stock play is that consumers still leave room in their budget for their favorite foods and vices, while continuing to shop at discount retailers. The consumer staples sector (also known as consumer defensive or consumer non-cyclical) invests in consumer products and services that people tend to buy in all phases of an economic cycle.

There can be some overlap with healthcare and utilities but ETFs like Consumer Staples Select Sector SPDR (XLP) provide healthy doses of food and beverage names like General Mills Inc (GIS) and Coca-Cola Co (KO) but also includes “sin stocks,” such as the tobacco company, Altria (MO).

Let’s look at past performance again for reference. The XLP only fell -14.79% in price, compared to a decline of -37% during the worst of the previous bear market in 2008. That’s superior protection that any investor should crave.

XLP, like other ETF offerings from State Street Global Advisors, has a long track record, billions of dollars under management, providing an ideal indexing environment for investors. You’ll also like the cheap 0.16% expense ratio.

As of this writing, Kent Thune did not hold a position in any of the aforementioned securities. Under no circumstances does this information represent a recommendation to buy or sell securities.


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

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

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