Deja Vu All Over Again
The sensitivity of utilities and REITs to interest rates isn’t a new story. My point here is simply that the risk that played out late last year hasn’t gone away. [For more see our U.S. Utilities and U.S. Real Estate segment reports.]
One way to see this is by looking at correlations of two leading ETFs to that of a broad fixed-income proxy, the iShares Core U.S. Aggregate Bond ETF (AGG | A-97).
To be sure, utilities and REITs, as represented by XLU and VNQ, have been uncorrelated with AGG over the past three years, as shown by correlation of -0.14 and -016, respectively. (Correlations close to zero, like these, mean uncorrelated.)
However, correlations change. The chart below shows rolling six-month correlations with AGG for XLU, VNQ and equity market proxy SPY. Higher correlations here mean that returns for the utility and REIT ETFs are falling when rates rise (I’m comparing with AGG’s returns rather than yields).
The chart says two things. First, correlations with fixed income are volatile for the utility and REIT sectors and for broad equities, with a dramatic spike midyear 2013. Second, both utilities and REITs have been much more sensitive to interest rates than have broad equities.
The takeaway here is simple: Utilities and REITs may founder again on the fear—or the reality—of another interest-rate shock.