Smart ETF Picks For A Cooling Inflation Era

According to the Bureau of Labor Statistics, the headline Consumer Price Index (CPI) dropped from 3.0% in January to 2.8% in February, below economist expectations of 2.9%. With inflation cooling, the possibility of interest rate cuts also come into the picture.

In this backdrop, certain sectors stand to benefit more than others, such as consumer discretionary, technology and real estate. ETFs with exposure to these sectors also stand to benefit from a cooling inflation (and subsequently rate cuts). Below are some ETFs to consider in this scenario.

Also Read: Inflation Moves In The ‘Right Direction’ But Forecast Is Hazy, Economist Says

1. Consumer Discretionary Select Sector SPDR Fund XLY

When inflation eases, consumers gain more purchasing power, often leading to higher spending on non-essential goods like apparel, automobiles and entertainment. This benefits the consumer discretionary sector, and consequently XLY.

AUM: $20.28 billion
Expense ratio: 0.08%
Index tracked: Consumer Discretionary Select Sector Index
Top holdings: Amazon AMZN, Home Depot HD, Booking Holdings BKNG

2. Technology Select Sector SPDR Fund XLK

Being majorly capital intensive, lower inflation and interest rates benefit tech stocks. When borrowing costs fall, tech firms can invest more in innovation and expansion, providing a fillip to profits and stock performance. XLK offers wide exposure to the technology sector, making it a parallel beneficiary.

AUM: $64.84 billion
Expense ratio: 0.08%
Index tracked: Technology Select Sector Index
Top holdings: Apple Inc. AAPL, Microsoft Corporation MSFT, Nvidia NVDA

3. iShares U.S. Real Estate ETF IYR

The real estate sector often thrives in a low-interest-rate environment. Lower mortgage rates can boost housing demand, while real estate investment trusts (REITs), which typically carry high debt levels, can enjoy cheaper finance operations. IYR provides exposure to U.S. real estate companies and REITs.

AUM: $3.57 billion
Expense ratio: 0.39%
Index tracked: Dow Jones U.S. Real Estate Capped Index
Top holdings: Prologis Inc PLD, American Tower Corp AMT, Equinix Inc EQIX

Economic Backdrop

Inflation cooled in February, a breather investors who had a lot to worry about in the past few weeks. According to the Bureau of Labor Statistics, the headline Consumer Price Index (CPI) dropped from 3.0% in January to 2.8% in February, below economist expectations of 2.9%. This marked the first decline after four months of increasing price pressures. Core inflation, which excludes food and energy prices, also moderated, coming in at 3.1% year-over-year, down from 3.3% in January.

These developments reinforce the Federal Reserve's likelihood of cutting interest rates in 2025. Now, economic growth is projected to slow in the first quarter and investment banks have revised GDP forecasts downward, with the Atlanta Fed's GDPNow model predicting a potential 2.4% contraction. This strengthens expectations for rate cuts, as evident from CME FedWatch Tool survey which shows traders assigning nearly an 80% probability of a reduction by June.

Read Next: