Three Defensive ETFs for a Bear Market - ETF News And Commentary

Thanks to growing worries over the euro zone and an employment problem in the U.S., many investors are growing skeptical about a broad recovery. Stocks have begun to reflect this pessimism as of late while many portfolio managers and analysts have become increasingly bearish in recent weeks as well.

This issue has further been compounded by sputtering markets in emerging nations around the globe. Countries like China, India, and Brazil were seen as key growth markets for many, but thanks to a general slowdown in these nations too, growth prospects have become pretty hard to come by, leading to a gloomy mood about the global economy (also read Can You Beat These High-Dividend ETFs? ).

Given this trend, some investors may want to position their portfolios for the coming storm, especially if growth rates continue to decline in the developed world. While looking to consumer staples, utilities, or other safe sectors is certainly one way to go, some investors could be better served by taking an ETF approach to the problem.

By doing this, investors can gain basket exposure to a number of securities, potentially reducing risk in the process. Additionally, many ETFs have been able to open up new strategies to every day investors, allowing many to position their portfolios for adverse environments in ways that were impossible just a few years ago (see more in the Zacks ETF Center ).

Below, we highlight three of these great defensive ETFs that could be used in a bear market. Each applies an interesting or unique methodology in order to protect investors, potentially shielding at least some of a portfolio against a weak economic environment should the trend continue to be bearish in the global economy:

AdvisorShares Active Bear ETF ( HDGE )

This ETF goes short in a variety of equities hopefully targeting those that have low earnings quality. By focusing on these securities that have potentially weak fundamentals, the product could be an interesting pair to a long portfolio, as these stocks could underperform in a down market and thus result in strong profits for holders of HDGE.

In order to find these potentially weak firms, the managers in HDGE look to the income statement for clues. They focus in on aggressive revenue recognition, inventory issues, reserve concerns, serial charges, and tax issues, among others, to pinpoint companies that may be masking weakness (read HDGE: the Active Bear ETF under the Microscope ).

Once the companies are indentified, the team then looks at the overall market, technical factors, and risk levels in order to pick which securities to include in the fund. Currently, consumer discretionary firms, technology, and industrials make up the three biggest weights in the fund.

Unfortunately, however, the fund does charge a pretty hefty fee, thanks in large part to the short interest expense. Due to this 1.44% fee, net costs come in at a whopping 3.29% for the fund, among the highest in the ETF world.

While this is unsettling, investors should note that the product has crushed the S&P 500 over the past three months, outpacing the benchmark by over 1,200 basis points (after fees) in the time period.

Barclays ETN+ S&P VEQTOR ETN ( VQT )

Volatile markets are usually not a great time to be holding stocks. As a result investors can sometimes profit when uncertainty is surging by investing in products linked to volatility indexes. However, when volatility is low, it is probably best to stay in stocks, suggesting that investors need to be ready to dynamically allocate between these segments.

VQT does just that, albeit in ETN form. The note has three components; equity, volatility, and cash, and depending on the level of volatility in the market, it will shift between the three distinct groups (see Inside the Barclays S&P VEQTOR ETN ).

When volatility is low, an investment almost exclusively is made in the S&P 500, while when volatility is high, a look to a short-term VIX index is taken, putting up to 40% of the notional portfolio in VIX-related securities. Then if events get really bad, the entire portfolio shifts to cash in order to wait out the storm.

This approach looks to miss the worst periods in the stock market while still having the ability to be exposed to broad markets when the economy is chugging along. However, investors should note that the product does face credit risk-since it is an ETN-while fees are relatively high at 95 basis points a year although volume is moderate at roughly 47,000 shares a day.

U.S Market Neutral Anti-Beta Fund ( BTAL )

During uncertain market environments, a focus on low beta stocks is usually warranted. These securities tend to be less volatile than the overall market and when stocks are broadly plunging, they can outperform their high beta peers.

An easy way to take advantage of this strategy is via the relatively new BTAL from QuantShares. This product tracks the Dow Jones U.S. Thematic Market Natural Anti-Beta Index which is an equal weighted dollar neutral, sector neutral benchmark (see Three Low Beta ETFs for the Uncertain Market ).

The index's strategy is to identify the lowest beta stocks and go long in them while simultaneously going short in the highest beta stocks. The fund looks to do this in equal amounts for both the long and short positions, hopefully profiting off the spread between these two segments.

Although this strategy has underperformed the broad Russell 1000 since inception, investors should note that the reverse has happened in the trailing quarter. During this time, BTAL outgained the Russell index by over 1,500 basis points, demonstrating that the strategy can work very well in down markets.

However, investors should also note that the QuantShares fund does have a relatively high expense ratio coming in at 0.99%. Additionally, the fund has failed to capture a great deal of assets so volume is relatively light while it can trade at a small premium to NAV as well from time to time.

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QS-US MN AN-BET (BTAL): ETF Research Reports

ACTIVE-BEAR (HDGE): ETF Research Reports

BARCLY-SP VEQTR (VQT): ETF Research Reports

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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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