All eyes are currently on the crucial two-day FOMC meeting (slated to start today) as the central bank is highly anticipated to raise the key interest rate by three-quarter points for the third consecutive time to fight elevated inflation. This has already been priced in. The central bank could also implement an unprecedented one full percentage point hike.
Several ETFs are in focus and could see outsized volume, depending on the upcoming Fed decision. A few ETFs like SPDR S&P Regional Banking ETF KRE, Vanguard Consumer Discretionary ETF VCR and Invesco DB US Dollar Index Bullish Fund UUP will continue to benefit if the Fed raises rates, while a few, such as SPDR Gold Trust ETF GLD, iShares iBoxx $ High Yield Corporate Bond ETF HYG and iShares MSCI Emerging Markets ETF EEM, would be severely impacted.
Aggressive Rate Hike
Fed Chair Jerome Powell has been on a tightening spree since the start of this year. The central bank has raised interest rates for the fourth consecutive time this year, taking the benchmark rate in the range of 2.25% and 2.5% to fight inflation. Powell recently said that the Fed would need to keep interest rates high enough to slow the economy “for some time” to curb high inflation (read: 4 Top-Ranked ETFs Set to Explode as Rate Rises).
And hotter-than-expected inflation data last week bolstered the bets for the longer-than-expected aggressive rate hike. According to the latest CME Group’s FedWatch Tool data, investors are pricing an 82% chance of a 75-bps rate hike next week and an 18% chance of a full-percentage-point hike. While the tight monetary policy "for some time" will bring down inflation from its 40-year high, it means slower growth, a weaker job market and "some pain" for households and businesses.
ETFs to Win
SPDR S&P Regional Banking ETF (KRE)
A rising interest rate scenario would be highly profitable for banks as they seek to borrow money at short-term rates and lend at long-term rates. With the rise in short-term interest rates, banks would be able to earn more on lending and pay less on deposits. This would expand net margins and bolster banks’ profits. In particular, the ultra-popular SPDR S&P Regional Banking ETF will benefit the most. The product follows the S&P Regional Banks Select Industry Index, holding 144 securities in its basket.
SPDR S&P Regional Banking ETF has AUM of $3.3 billion and charges 35 bps in annual fees. It trades in an average daily volume of 5.6 million shares and has a Zacks ETF Rank #1 (Strong Buy) with a High risk outlook.
Vanguard Consumer Discretionary ETF (VCR)
Higher interest rates usually indicate a healthy economy, leading to greater consumer power. An improving economy coupled with higher consumer confidence will make the consumer discretionary sector tempting to investors amid higher yields. Vanguard Consumer Discretionary ETF follows the MSCI U.S. Investable Market Consumer Discretionary 25/50 Index and holds 311 stocks in its basket. In terms of industrial exposure, Internet & direct marketing retail and automobile manufacturers occupy the top spots with double-digit exposure each (read: Higher Yields to Fuel Rally in These ETFs).
Vanguard Consumer Discretionary ETF is the low-cost choice in the space, charging investors only 10 bps in annual fees while volume is good at nearly 82,000 shares a day. The fund has managed about $5 billion in its asset base so far. Vanguard Consumer Discretionary ETF has a Zacks ETF Rank #1 with a Medium risk outlook.
Invesco DB US Dollar Index Bullish Fund (UUP)
Rising interest rates will pull in more capital into the country and lead to an appreciation of the U.S. dollar. Invesco DB US Dollar Index Bullish Fund is the prime beneficiary of a rising dollar as it offers exposure against a basket of six world currencies — euro, Japanese yen, British pound, Canadian dollar, Swedish krona and Swiss franc. This is done by tracking the Deutsche Bank Long US Dollar Index Futures Index Excess Return plus the interest income from the fund’s holdings of U.S. Treasury securities.
Invesco DB US Dollar Index Bullish Fund has so far managed an asset base of $2 billion while seeing an average daily volume of around 4 million shares. It charges 77 bps in total fees and expenses and has a Zacks ETF Rank #2 (Buy) with a Medium risk outlook.
Deutsche X-trackers MSCI EAFE Hedged Equity ETF (DBEF)
The strength in dollar would knock down the returns of international investments and thus raise the appeal for currency-hedged ETFs. For those seeking exposure to the developed market with no currency risk, Deutsche X-trackers MSCI EAFE Hedged Equity ETF could be an intriguing pick. The fund follows the MSCI EAFE US Dollar Hedged Index and holds 811 securities in its basket.
Deutsche X-trackers MSCI EAFE Hedged Equity ETF has AUM of $4 billion and trades in a solid volume of nearly 547,000 shares a day. It charges 35 bps in fees per year from investors and has a Zacks ETF Rank #3 (Hold) with a Medium risk outlook.
ETFs to Lose
SPDR Gold Trust ETF (GLD)
Gold will be hit hard as higher interest rates would diminish the yellow metal’s attractiveness since it does not pay interest like fixed-income assets. So, products tracking this bullion like SPDR Gold Trust ETF will lose. It tracks the price of gold bullion measured in U.S. dollars, and kept in London under the custody of HSBC Bank USA. SPDR Gold Trust ETF is an ultra-popular gold ETF with AUM of $52.7 billion and a heavy volume of about 5 million shares a day (read: Time for Inverse Gold ETFs?).
SPDR Gold Trust ETF charges 40 bps in fees per year from investors and has a Zacks ETF Rank #3 with a Medium risk outlook.
iShares iBoxx $ High Yield Corporate Bond ETF (HYG)
The high-yield corner of the fixed-income world is the most watched area. This is because higher rates would raise yields on the Treasury notes, thereby fading the sole lure of the high-yield bonds. iShares iBoxx $ High Yield Corporate Bond ETF is the largest and most-liquid fund in the high-yield bond space, with AUM of $12 billion and an average daily volume of around 33.4 million shares. It charges 48 bps in fees per year from investors.
iShares iBoxx $ High Yield Corporate Bond ETF tracks the Markit iBoxx USD Liquid High Yield Index and holds 1,253 securities in the basket. The ETF has a Zacks ETF Rank #4 (Sell) with a High risk outlook.
iShares MSCI Emerging Markets ETF (EEM)
A rate hike would pull out more capital from the emerging markets, stirring up concerns for most nations. The most-popular emerging market ETF — iShares MSCI Emerging Markets ETF — tracks the MSCI Emerging Markets Index and charges 68 bps in annual fees from investors. It holds 1,246 securities and has AUM of $24.1 billion.
iShares MSCI Emerging Markets ETF trades in an average daily volume of around 33 billion shares and has a Zacks ETF Rank #3 (Hold) with a Medium risk outlook.
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SPDR Gold Shares (GLD): ETF Research Reports
iShares iBoxx High Yield Corporate Bond ETF (HYG): ETF Research Reports
Invesco DB US Dollar Index Bullish ETF (UUP): ETF Research Reports
iShares MSCI Emerging Markets ETF (EEM): ETF Research Reports
SPDR S&P Regional Banking ETF (KRE): ETF Research Reports
Vanguard Consumer Discretionary ETF (VCR): ETF Research Reports
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