6 ETF Areas To Watch As Fed Meeting Starts

Investors across the globe are looking forward to outcome of the September 20–21 Fed meeting. Since chances of a rate hike are low this time thanks to a whirlpool of downbeat economic readings released lately, Fed’s comments over the health of the economy will be most important than anything else this time around.

Reuters noted that traders now foresee only a 12% probability of a hike this Fed meeting as per CME Group's (NASDAQ:CME) FedWatch program. However, bets are way higher (55%) for a policy tightening in December. After all, if the Fed does not make it in December, economic conditions will be called too soft to afford even a single 25-basis point hike in 2016 after a liftoff in December 2015.

Data in the spheres of industrial, job and retail came in weak lately. So, post Fed verdict, global markets are likely to move in accordance with Fed statements and minutes. Then again, there is still a cohort which believes that a September hike is possible. For example, Barclays (LON:BARC) analysts stated, "we retain our outlook for a rate hike in September. We believe the data have met the Fed's threshold."

Inflation is still muted. But that threat seems to be entirely oil-induced. And how long can the Fed sit with accommodative polices when oil prices are showing no sign of a sustained snap-back?

All these have put this week’s meeting at a crucial crossroad. Investors across the globe and asset classes are holding their breath to know the outcome of the meeting as well as the Fed’s outlook on the global economy. For them, below are six ETF areas that should be in watch as the Fed members meet.

Rate Sensitive Sectors

If the Fed hikes or gives cues of a near-term hike, rates will spike. Rising rate concerns are negative for sectors like real estate and utility. So, while utility ETF Utilities Select Sector SPDR ETF (NYSE:XLU) XLU and Mortgage REIT ETF iShares FTSE NAREIT Mortgage Plus Capped Index Fund REM) might be hit hard if the Fed indicates policy tightening, investors might profit out of this situation by shorting these sector ETFs. To do so, investors can try a bearish play on ProShares UltraShort Utilities ETF ( (LON:SDP) ) and ProShares Short Real Estate ETF ( (V:REK) ) (read: 3 Utility ETFs Gaining on Abating Rate Hike Prospects).

Bonds

Bonds are the most vulnerable investing zone in the face of policy tightening. A hike in interest rates would push up yields and hit bonds prices. Thus, a yes from the Fed would drag down several U.S. Treasury bond ETFs while a no would drive them up.

However, investors should note that if the Fed enacts a hike this week, the U.S. fixed income market will likely see a flattening of the yield curve wherein the short end will rise faster than the intermediate part or the long end of the yield curve.

In such a scenario, investors can make profits out of iPath US Treasury Flattener ETN FLAT – a product which provides inverse (or opposite) exposure to the Barclays US Treasury 2Y/10Y Yield Curve Index. Floating rate bond ETFs likeiShares Floating Rate Note ETF FLOT can also be options for playing rising rates.

Though investors can make the most of the Fed policy tightening by shorting treasuries, Barclays Inverse US Treasury Aggregate ETN ( (CM:TAPR) ) could be an intriguing play for investors preparing for the rate hike (read: Prepare for Rising Rates with These Inverse & Hedged Bond ETFs).

Dividend

If treasury yields start to rise, lure for dividends will subside or vice versa. This puts funds like ALPS Sector Dividend Dogs ETF SDOG, iShares Select Dividend ETF DVY andFirst Trust Value Line Dividend Index Fund FVD in focus (read: Dividend ETFs Explained: What Investors Need to Know).

Financials

Financial stocks normally benefit from higher rates. The benefit primarily comes from a steepening of the yield curve. So, whatever happens in the Fed meeting, it will lead to considerable swings in financial ETFs like iShares U.S. Financials ETF IYF,SPDR S&P Insurance ETF KIE and PowerShares KBW Bank Portfolio ETF KBWB (read: Best Sector ETFs for a Rising Rate Scenario).

Greenback

If the Fed tightens policies, the greenback will also jump along with higher yields and poise PowerShares DB US Dollar Bullish Fund (UUP) for gains. The fund is down 3.4% so far this year (as of September 19, 2016). This dip can be helpful for the fund as it led the U.S. dollar to fair valuation.

Volatility

Things could remain volatile at end of the September as some high-end events are in the pipeline including the Fed, BoJ and OPEC meetings. Volatility level is best represented by the CBOE Volatility Index (VIX). This fear gauge measures investor perception of the market’s risk and tends to rise when markets are sliding or investors start to panic. It is constructed by using implied volatilities of the S&P 500 index options, taking both calls and puts into account.

So, volatility index and the related ETFs including iPath S&P 500 VIX Short-Term Futures ETN (VXX) and ProShares VIX Short-Term Futures ETF VIXY are the best instruments to check how investors perceive the Fed decision. So, these will be in focus in the coming days.

Want more information on the world of ETFs? Make sure to check out the podcast below where we discuss the investing landscape with Kevin O’Leary and Connor O’Brien of O’Shares Investments:

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