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Short These Sector ETFs on Rising Rate Concerns

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The faster-than-expected increase in rates has been playing foul on rate-sensitive sectors since the start of February. This is especially true as an upbeat January jobs report, which showed the fastest pace of wage growth in more than eight years, has taken a toll on these sectors stroking inflation fears and speculation of speedy rate hikes. This has also pushed up bond yields sharply.

Notably, yields on the 10-year Treasury bonds are hovering around 2.89% at the time of writing, up from 2.78% at the start of February (read: 6 Ways to Build a Rate-Proof Portfolio With ETFs).

Additionally, surging global economic growth is indicating an inflation comeback and the prospect of faster-than-expected monetary policy tightening. The cheap monetary policy era ended in Asia with South Korea becoming the first major central bank to increase interest rates for the first time in more than six years. The Bank of England, too, has raised interest rates for the first time in more than 10 years.

The European Central Bank (ECB) will start cutting its massive €60-billion-per-month asset buying program to halve from January 2018 until at least September 2018 while the Bank of Japan will continue its massive stimulus program until the economy reaches a sustained 2% inflation.

In such a situation, high-dividend-paying sectors such as utilities and real estate would be the worst hit given their higher sensitivity to rising interest rates. In fact, rising bond yields have started taking away some sheen from these stocks, putting them under severe pressure for the months to come as well (read: 4 High-Dividend ETFs & Stocks Under $17).

In spite of avoiding these stocks altogether, investors could make a short-term bearish play on the rate-sensitive sectors as these spaces will continue to trade sluggishly if interest rates keep on rising.

How to Play?

While futures or short-stock approaches are some of the possibilities, inverse ETFs might be good options. Inverse ETFs provide opposite exposure that is a multiple (-1, -2 or -3 times) of the performance of the underlying sector using various investment strategies, such as, swaps, futures contracts and other derivative instruments.

Since most of these funds seek to attain their goal on a daily basis, their performance could vary significantly from the inverse performance of the underlying index or benchmark, over a longer period when compared to a shorter period (such as, weeks, months or years) due to the compounding effect.

However, these funds prevent investors from losing more than their initial investment and are cheaper than direct shorting or utilization of futures contracts. Given this, investors seeking to capitalize on the rising rate scenario in a short span could consider any of the following ETFs given the bearish outlook for the sectors. Investors should note that each of the products charge 95 bps in annual fees from investors:  

ProShares UltraShort Utilities ETF SDP

This fund seeks to deliver twice (2x or 200%) the inverse return of the daily performance of the Dow Jones U.S. Utilities Index. It has $7.8 million in AUM and average trading volume of nearly 5,000 shares per day. The product gained 4% last week.

ProShares Short Real Estate ETF REK

This fund seeks to deliver the inverse return of the daily performance of the Dow Jones U.S. Real Estate Index. The ETF makes profits when real estate stocks decline and is suitable for hedging purposes against the fall of these stocks. The product has amassed $14 million in its asset base while volume is light at around 10,000 shares a day. REK was up 3.6% last week (read: Short Real Estate ETF Hits New 52-Week High).

ProShares UltraShort Real Estate ETF SRS

The fund offers two times inverse exposure to the performance of the Dow Jones U.S. Real Estate Index. It has managed assets worth $38.7 million and trades in moderate volume of nearly 36,000 shares. The ETF gained 7.9% last week.

Direxion Daily MSCI Real Estate Bear 3X Shares DRV

This product seeks to deliver three times the inverse performance of MSCI US REIT Index. It has AUM of $16.5 million and average daily volume of around 77,000 shares. The ETF surged in double-digits last week.

Bottom Line

As a caveat, investors should note that these products are suitable only for short-term traders as these are rebalanced on a daily basis (read: all Inverse Equity ETFs here).

Still, for ETF investors who are bearish on the securities of the high-yielding sectors in the near term, any of the above products could make for an interesting choice. Clearly, a near-term short could be intriguing for those with high-risk tolerance, and a belief that the “trend is the friend” in this corner of the investing world.

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PRO-ULS RE (SRS): ETF Research Reports
DIR-D RE BEAR3X (DRV): ETF Research Reports
PRO-ULS UTIL (SDP): ETF Research Reports
PRO-SH REAL EST (REK): ETF Research Reports
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