Smart Beta ETFs Face Rising Rates

On the heels of the Federal Reserve's first interest rate hike of 2017 and third in 15 months, some fundamentally-weighted or smart beta exchange-traded funds are receiving increased attention, good and bad.

For example, low volatility ETFs have recently been losing assets while ascending to new highs, because many investors perceive these ETFs as being inversely correlated to rising Treasury yields.

SPLV And USMV

That includes the popular iShares Edge MSCI Min Vol USA ETF USMV and the PowerShares S&P 500 Low Volatility Portfolio SPLV, the two largest low volatility ETFs.

USMV and SPLV “have shed a combined $1.3 billion assets. Despite the exposure differences — for example USMV has sector constraints not employed for SPLV — both offer relatively strong exposure to higher-dividend-yielding stocks relative to the S&P 500 index,” said CFRA Research in a note Monday. “As the Fed raises rates further this year, a rotation away from these 'bond proxies' may occur.”

Taking A Gander On SPLV

SPLV allocates over 37 percent of its combined weight to utilities and consumer staples stocks, sectors often mentioned as bond proxies. Staples, utilities and telecom names combine for over a quarter of USMV's weight.

“CFRA has Overweight rankings on both ETFs, based on a combination of holdings-level analysis and fund attributes,” said CFRA. “More specifically, SPLV and USMV currently earn favorably low risk consideration attributes in our research, which is consistent with the downside protection investors should seek out from a lower-volatility product.”

Switching Focus To SDY

Not surprisingly, some dividend ETFs are dealing with outflows after the Fed's first rate increase of 2017. That includes the SPDR S&P Dividend ETF SDY, one of the largest dividend ETFs listed in the United States. SDY, which only holds companies that have raised their dividends for at least 20 consecutive years, devotes 27 percent of its combined weight to staples and utilities stocks, cyclical industrial and financial services names are the ETF's biggest sector weights.

SDY “experienced net outflows year to date despite offering exposure to companies with long-term records of dividend increases,” said CFRA.

The research firm also has an Overweight rating on the $15.5 billion SDY.

“With the Federal Reserve raising rates last week and indicating that gradual rate hikes are to be expected throughout the year, CFRA thinks investors should broaden the range of smart-beta products they consider,” said CFRA while noting SDY, SPLV and USMV “remain worthy of consideration.”

Related Links:

A Fundamentally Sound Small-Cap ETF

Tracking Moves In Some Smart Beta ETFs