When the economy transitions from expansion to contraction and the market transitions from a bull to a bear, investors can’t expect all the same stocks and funds to outperform and the same investing strategies to continue to work.
Economic fears due to the spread of the COVID-19 coronavirus has led the market to plummet in the past month, with the Dow Jones Industrial Average falling from the 30,000 level to under 19,000 earlier this week.
Investors priorities flip from maximizing gains to minimizing risk, and buying volume rotates into brand new pockets of the market. The past few weeks of trading in the market may seem like total chaos, but a closer look reveals certain groups of stocks and funds are outperforming others.
Here are eight ETFs to consider that could outperform during a U.S. recession.
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1. Health Care SPDR (NYSE: XLV)
The health care sector is one of the main sectors of the economy that has historically been a defensive place for investors to put their money during economic downturns.
While other businesses are shutting down amid the COVID-19 outbreak, demand for health care services is booming. In the longer term, the fact that former Vice President Joe Biden has surpassed Senator Bernie Sanders as the likely Democratic presidential candidate further eliminates risks associated with a radical overhaul of the U.S. health care and pharmaceutical industries.
In the past month, the XLV ETF is down just 21.6% compared to a 29.5% drop by the overall S&P 500.
2. Utilities SPDR (NYSE: XLU)
Another potential place for investors to find safety during a recession is Utility stocks. In addition to its relative stability and downside valuation protection, the XLU ETF pays a generous 4.6% dividend yield.
Utilities have historically outperformed during economic downturns because Americans must keep the lights on and water flowing no matter how bad it gets. Many utilities have limited competition and operate under strict government regulations, which further serve to create a stable earnings and revenue environment.
Utilities may not be a sexy investment, but they can be an excellent source of reliable dividend income while interest rates are at 0%.
3. Consumer Staples Select Sect. SPDR (NYSE: XLP)
Another market sector that performs relatively well when the economy tanks is the consumer staples sector.
When Americans cut their spending in times of uncertainty, those cuts don’t typically include toothpaste, toilet paper and laundry detergent. Consumer staples stocks are relatively recession-resistant, making them safe places to invest during market downturns. Over the past month, the XLP ETF is down just 19.4%, making it the best-performing SPDR sector ETF of all.
As an added bonus, the XLP ETF pays a 3.1% dividend, so investors can get paid while they wait for the economy to recover.
4. SPDR S&P Dividend (NYSE: SDY)
Not only do dividend stocks and ETFs provide yield for investors when interest rates are nearly 0%, many dividend stocks actually outperform the broad market during economic downturns. The SDY ETF pays a 3.3% yield, which is leaps and bounds better than the interest rates you’ll find these days in U.S. Treasuries, high-yield savings accounts or certificates of deposit.
The risk in buying high-yield dividend stocks is that the economic hardship will trigger a dividend cut. But dividend ETFs such as the SDY, which holds 120 different stocks, provide the type of diversification that protects against individual dividend cuts.
5. VANGUARD IX FUN/RL EST IX FD ETF (NYSE: VNQ)
Real estate is another popular flight-to-safety investment, and real estate investment trusts often pay extremely high yields.
The VNQ ETF holds 181 different investments that cover roughly two-thirds of the entire U.S. REIT market. Real estate has historically had relatively low correlation to traditional stocks and bonds, making the VNQ fund an excellent source of portfolio diversification. Investors also don’t have to worry about REIT dividend cuts as they are obligated by law to distribute 90% of income to investors.
The VNQ ETF currently pays a 5.5% yield and has an expense ratio of just 0.12%.
6. SPDR Gold Trust (NYSE: GLD)
The classic safe-haven investment during times of economic turmoil is gold. There are plenty of reasons investors buy gold during recessions. They argue that there is a limited quantity of physical gold in the world, although gold miners add roughly 3,300 tons of gold to the global supply annually. Gold buyers also see the precious metal as a hedge against inflation that could be triggered by central bank stimulus over time.
Whatever the reason, the GLD ETF is down just 2.4% year-to-date, insulating investors from the majority of the broad market sell-off.
7. ISHARES TR/EDGE MSCI INTL VALU (NYSE: IVLU)
Another way for investors to protect themselves during a recession is to rotate from growth stocks to value stocks.
Value stocks typically have high profit levels relative to their share prices and tend to generate strong cash flows, have stable revenues and carry relatively low debt levels. Self-funding, blue-chip companies can be insulated from the type of uncertainty that is created if credit markets start to tighten. Many of these stocks also pay dividends.
The IVLU is one good way for U.S. investors to get exposure to international value stocks and a 2.5% yield.
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