Telling Signs About Risk Appetite From Sector ETFs

Coming into Thursday, the year-to-date performances for risk-off sector ETFs, such as the Consumer Staples Select Sector SPDR XLP and the Utilities Select Sector SPDR XLU, were mixed.

XLP, the largest consumer staples ETF, entered the day with a 5.2 percent year-to-date gain, good for the third-best showing among the nine sector SPDRs. XLU, the largest utilities ETF, entered Thursday down nearly seven percent for the year. Only the Energy Select Sector SPDR XLE had been worse among the nine SPDRs this year.

The third quarter has rejuvenated XLP and XLU. That is great for investors already holding those ETFs, but perhaps not the best news for those expecting a near-term rally for U.S. stocks backed by the leadership of higher beta, riskier sectors.

Even with today's modest loss, XLP is up more than four percent since the start of the third quarter. Trading higher by nearly one percent at this writing, XLU is sporting a third-quarter gain of 4.6 percent. If today's gain holds for XLU, the utilities ETF will be the best of the nine SPDRs on a quarter-to-date basis, followed by XLP. And it's not even close.

One day does not make a trend, but here is a potentially telling anecdote about how investors currently view U.S. stocks: As the broader market surged for a second consecutive day on Wednesday, seven ETFs hit all-time highs. That number is low to begin with, but it is all the more concerning when considering that of those seven ETFs, five, including XLP, were staples funds.

Sure, XLP has had some recent momentum with rumors of ongoing consolidation in the tobacco industry, but the ETF's third-quarter move is something to behold when noting ongoing strength in the U.S. dollar. A favorite excuse of XLP's marquee holdings when it comes to rationalizing disappointing earnings is the strong greenback, yet somehow XLP has climbed more than four percent this quarter even as the U.S. Dollar Index is flirting with a quarter-to-date gain of one percent. 

With a trailing 12-month dividend yield that is about 140 basis points in excess of 10-year Treasurys, XLU is viewed by some market participants as a bond proxy, which is to say the ETF's struggles earlier this year are highly attributable to rising Treasury yields.

Well, the Federal Reserve did not raise interest rates yesterday, but it did not back away from the timetable of later this year for a rate hike. Data suggest professional traders are betting on a rate hike before year-end with more to follow next year, but that is not derailing XLU. 

Investors' attitudes toward XLP and XLU are shifting, too. Through the first half of the year, XLP and XLU bled $2.6 billion and $1 billion, respectively, in assets. In the current quarter, however, investors have added $553.4 million to XLP and $368.3 million XLU.