3 ETFs To Own While Fed Continues QE

Last night Ben Bernanke, Federal Reserve Chairman, spoke to a room of economists and his tone was much different than it was just a few weeks ago. In late June the Chairman alluded to the fact that the Fed will begin “tapering” their $85 billion monthly asset purchases in the near future.

Now, the taper date appears to be deeper into the future than the market had originally been predicting. Here is a direct quote from Bernanke in response to a question, “Both the employment side and the inflation side are saying that we need to be more accommodating.” I read into the quote literally and it tells me there will be more quantitative easing (QE) in the months ahead and that the path of least resistance for stocks is higher.

The $85 billion in monthly purchases by the Fed has helped artificially keep interest rates low and boost stocks. Now that this trend will continue, we need to continue to look at investments that have done well the last couple of years. There are three areas I am focusing on with the continuation of QE.

Stocks are the most attractive asset class in town with interest rates well below historical averages, good valuations, strong charts, and a Fed on their side. Within the asset class you want to lean towards the aggressive stocks and this leads to the iShares Russell Microcap Index ETF IWC. The ETF is a basket of over 1350 microcap stocks that trades with a slightly higher beta (volatility) of 1.19 versus the S&P 500.

The one issue with IWC is that it is trading at an all-time high and therefore waiting for a pullback is the best strategy. Patience will pay off in this situation.

Income-Producing ETFs is another area that should continue the trend of moving higher with the cooperation of the Fed. As the Fed buys more bonds it keeps interest rates low, this in turn makes the yields of dividend-paying stocks even more attractive. The iShares High Dividend Equity ETF HDV is a basket of 75, mainly large-cap, stocks that pays a 3.6 percent dividend yield.

The ETF over five percent from its highs during the sell-off, but has since rebounded and is catching a bid after investors realized the Fed was not done pumping up the economy. The combination of high income and a basket of large-cap, stable companies make HDV an attractive opportunity.

Finally there are bonds themselves that should benefit from the Fed keeping interest rates low. The price of a bond and interest rates have an inverse relationship. As interest rates increase the value of bonds decreases and vice versa. With that being said, investing in US government bonds is too risky.

The play here is with corporate bonds that have below investment grade ratings. The ETF is the SPDR High Yield Bond ETF JNK, which is a basket of over 600 corporate junk bonds that is yielding 6.1%. Even when interest rates begin to rise again, JNK should be able to outperform treasuries and when stocks are increasing, junk bonds will often follow the market trend.

There are of course many other ETF options available to play for a prolonged Fed involvement in the economy. However, the three above offer a diverse starting point that should fit most investor’s long-term goals.