Strategies that have protected investors in past selloffs aren’t doing so now. In a rising-rate environment, investors need to rethink where to seek shelter.
A selection of eight of the largest exchange-traded funds with strategies generally regarded as “defensive”—including two so-called low volatility ETFs, four high-dividend or dividend-appreciation ETFs, a consumer-staples fund and a utilities fund—have for the most part declined sharply over the past week.
Granted, they had slightly outperformed the market, declining by an average 7.3% over the period compared with an 8.5% decline in the S&P 500 through Thursday’s close. But customers are unlikely to be satisfied with that kind of performance from products sold to them as safe. Strikingly, among the worst performers have been the so-called low volatility funds.
Consider
BlackRock
’s
iShares Minimum Volatility U.S. ETF, with $13.9 billion under management. It has fallen 7.8% in a week. That doesn’t feel like “minimum volatility,” regardless of what the broader market has done. Put simply, these funds aren’t living up to their promise, letting investors down.
All these defensive funds have something in common—they tend to have high concentrations in sectors such as consumer staples, utilities and other high-dividend payers. The individual stocks these funds invest in are viewed as “bond-like” by investors for their steady businesses and high, dependable dividend yields.
This style of investing generally does well during an economic downturn or a market panic. But it tends not to do so well in a rising interest-rate environment. That is a problem at the moment because rising interest rates are a main cause of the current selloff.
When actual bonds start paying decent rates, the appeal of bond-like equities fades. Currently, with the 10-year U.S. Treasury yielding 2.83%, only three of the eight defensive ETFs now boast a higher yield.
If rates keep rising, this defense won’t hold.
Write to Aaron Back at aaron.back@wsj.com
