5 ETFs To Profit From Fed Activity & Guidance

As widely expected, the Fed effected the first-rate hike of the year in its March meeting. The Fed raised the benchmark interest rates by a modest 25 bps to 1.50-1.75%, confirming the U.S. economy’s growth momentum and the labor market’s well-being. It marked the sixth-rate hike since the first lift-off in December 2015.

The guidance for this year however remains the same with two more hikes remaining. However, projections indicated an extra rate hike in 2019. The new Fed Chairman provided a relatively more bullish outlook of the U.S. economy.

Inside Upbeat Economic Forecast

The Fed upgraded its forecast for 2018 GDP growth from 2.5% in December to 2.7% and beefed up the 2019 growth forecast from 2.1% to 2.4%. However, growth is likely to slow down in 2020 to 2%. The Fed projected the longer-run growth measure of 1.8%.

Unemployment was guided down to 3.8% from 3.9% for 2018, 3.6% from 3.9% for 2019 and 3.6% from 4.0% for 2020. PCE inflation expectation remains the same at 1.9% for 2018 and 2% for 2019 but was nudged up to 2.1% from 2.0% for the year thereafter.

Core PCE inflation for 2019 and 2020 were rasied to 2.1% from 2.0%. Federal funds rate projections for 2019 was upped to 2.9% from 2.7% while the rate is guided to accelerate to 3.4% from 3.1%. Over the longer term, the rate is projected to be 2.9%, up from the December forecast of 2.8%.

Market Reaction

The immediate impact should be felt in the bond market, although the yield on 10-year U.S. Treasury remained unchanged from the prior day at 2.89%. As the tightening move was largely expected, the Treasury market did not give any wild reaction. In fact, iShares 20+ Year Treasury Bond (NASDAQ:TLT) ETF (V:TLT) added about 0.1% on Mar 21.

Top U.S. ETFs like SPDR S&P 500 ETF (NYSE:SPY) (AX:SPY) (down 0.2%), SPDR Dow Jones Industrial Average (SI:SPDR) ETF (V:DIA) (down 0.2%) and PowerShares QQQ ETF QQQ (down 0.4%) were in the red on Mar 21. However, as expected, financial ETFs like SPDR S&P Regional Banking (MX:KRE) ETF (CO:KRE) performed well thanks to a likely rise in rates. KRE was up 0.2% on Mar 21.

But there are several other ways to play the Fed policy tightening and bullish guidance beyond financial ETFs. Below we highlight a few of them (read: Time for Top Bank ETFs Ahead of Powell's First Fed Meeting?).

How to Profit From Fed Activity & Guidance?

Small-Cap

Investors should note that small-cap stocks are likely to do better in a rising rate environment since these are tied more to domestic activities and thus do not get hurt in a rising dollar environment (which is a likely outcome if interest rates rise). Also, with the GDP growth forecast being upgraded, investors have all reasons to play small-cap growth ETFs like PowerShares Russell 2000 Pure Growth ETF PXSG. The fund gained about 1.1% on Mar 21.

Consumer Discretionary

An improving economy with a strengthening labor market and a moderately rising interest rate environment is great for consumer discretionary stocks. SPDR S&P Retail (MX:XRT) ETF XRT that was up 0.02% on Mar 21 can be thus on investors’ wish list.

Preferred Stocks

Preferred Stock ETFs are known for higher yields. Not only do preferred stocks offer considerably higher yields (often exceeding 5%), these also provide an opportunity for capital appreciation. These are hybrid securities having the characteristics of both debt and equity. So, PowerShares Preferred Portfolio (V:PGX) is a good pick, which was up 0.2% on Mar 21 and yields about 5.75% annually (as of Mar 21) (read: Global X Lanches The Cheapest Preferred ETF).

Convertible Bonds

Stock markets being more-or-less steady, economy having decent fundamentals and monetary policy normalizing, convertible bonds are back in the limelight. Convertible bonds offer investors the right to convert their bond holdings into a company’s shares at the holder’s discretion. SPDR Bloomberg Barclays (LON:BARC) Convertible Securities ETF (TO:CWB) , which yields about 4.01% annually, gained about 0.1% on Mar 21 (read: Why 2018 Could Be Great for Convertible Bond ETFs).

Multi-Asset ETF

Multi-asset ETFs are great picks in times of uncertainty and have been doing well recently. For example, iShares Morningstar Multi-Asset Income IYLD added about 0.1% on Mar 21 and yields about 4.90% annually. This fund offers about 60% exposure to U.S. securities while international products occupy the rest. Among the sectors, the fund has broad-based exposure to non-fixed income, corporate, treasury and mortgage-backed securities (read: Wisdomtree Launches Balanced Income ETF).

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