Midyear ETF Portfolio Positioning

July 13, 2018

Midyear outlooks are popping up everywhere with big-name investors and market experts sharing their views on what’s in store for the remainder of the year.  

In the ETF space, ETF strategists are also busy adjusting allocations and making investment decisions based on what they see as the best investing opportunities ahead. We asked four ETF strategies across the country to tell us how they are positioning client portfolios for the second half the year, and why.

Corey Hoffstein, Co-founder & CIO at Newfound Research in Boston 
At Newfound Research, we utilize a fully quantitative, rule-driven process to govern our investment decisions. While we expect portfolio positioning to change from time-to-time in response to rotational trends that may be emerging between asset classes, as a firm, we do not hold an opinion on near- or long-term economic outlooks. As we close out the first half of the year, our portfolio positioning can be instructive as to how our models are interpreting economic and political information flow into the market.

In our long/flat U.S. equity trend strategies, our models currently identify mixed strength in the primary U.S. large-cap sectors. Certain sectors, like energy and consumer discretionary, are exhibiting considerable robustness, while sectors like materials and industrials remain weak. While fully invested, the lack of trend breadth means our strategies are positioned to build meaningful allocations to short-term Treasuries more quickly during a sell-off than we typically see in a healthy bull market environment.

In contrast, we see much more consistent strength across sectors in the small-cap space.

In our Multi-Asset Income portfolio, we also see heavily mixed signals, though generally improving conditions (with the exception of emerging market debt). Positions like bank loans—ETFs such as Invesco Senior Loan ETF (BKLN), preferreds in the iShares U.S. Preferred Stock ETF (PFF), convertible bonds in the SPDR Bloomberg Barclays Convertible Securities ETF (CWB), and the Invesco S&P 500 BuyWrite ETF S&P 500 (PBP) have been stalwarts in the portfolio.

 

 

Rob Glownia, Fixed Income Portfolio Manager at RiverFront Investment Group in Richmond, Virginia
Assessing the potential path of global markets for the rest of the year, we expect more episodes of increased volatility, which are usually coincidental with market pullbacks. Given the increasing probability that the Fed will raise interest rates two more times this year, along with ongoing trade negotiations, we have lowered our equity exposure to neutral relative to our benchmarks.

Specifically, we’ve concentrated our sales in international equities due to their continued deterioration of momentum and sentiment, as reflected in our tactical process. We also believe the uncertainty surrounding tariffs and market access are having a bigger impact abroad than on the U.S.

Gary Stringer, president and chief investment officer of Stringer Asser Management in Memphis, Tennessee 
The recent stock market volatility is likely to persist and equity prices should move higher. Our signals suggest that the volatility in the market has a lot to do with the downshift in the pace of global economic growth.

Headlines about trade wars and other hot topics are not a fundamental risk to the long-term stability of the financial markets, in our view. Among the major economies, U.S. economic growth appears to be the most resilient.  

At the end of the day, economic growth, even sluggish growth, should lead to higher corporate revenues and earnings, which can ultimately support higher equity prices. 

We expect mid-to-high single-digit returns from the equity markets compared to low single-digit returns from high-quality fixed income. In this environment, investors should emphasize U.S.-based revenue sources and lower-volatility strategies and investments. Investors may want to pivot their exposures away from areas that are more vulnerable and emphasize areas that should benefit.

We recently made some changes in our tactical equity allocation to focus more on U.S.-led revenue and earnings growth by adding an allocation to REITs through the Real Estate Select Sector SPDR Fund (XLRE), internet-related equities through the First Trust Dow Jones Internet Index Fund (FDN), healthcare equipment through the SPDR S&P Health Care Equipment ETF (XHE), as well as aerospace and defense through the SPDR S&P Aerospace & Defense ETF (XAR).

We expect the pace of U.S. economic growth to soften, which should result in a deceleration in nominal GDP growth. That means long-term yields are likely to fall. A falling rate environment bodes well for defensive sectors, such as Real Estate. We also favor internet stocks since they reflect consumer and business preferences for internet-related services.

We chose FDN for this allocation. Our investment in healthcare equipment (in XHE) reflects our confidence in that industry as the world’s wealthiest society ages. Our recent addition of an investment focused on the aerospace and defense industries (XAR) reflects our emphasis on companies whose sources of revenue are more closely tied to the U.S. and to relatively defensive equities. Both of these areas rely heavily on the U.S. economy for revenue growth.

 

 

David Haviland, managing partner and portfolio manager of Beaumont Capital Management, based in Needham, Massachusetts:
There are many factors and indicators that could be signaling significant events in the intermediate term, but overall our systems are not making any dramatic moves or significantly de-risking. We have been fully invested across our Sector and Decathlon portfolios for the first half of 2018.

The biggest change to our Sector Rotation strategies is the addition of the new Communication Services sector to the S&P 500 Index. S&P Dow Jones, one of the creators of the Global Industry Classification Standard (GICS), is executing the largest reconstitution of the S&P 500 since its inception. Highlights include that technology sector will shrink by about 6%, consumer discretionary will shrink by about 3% and the new communications services sector will represent over 10% of the S&P 500.

State Street SPDRs has rolled out the Communication Services Select Sector SPDR Fund (XLC).We were able to get ahead of this change, purchasing it in our Sector Rotation strategies at the end of June. We will be adding this ETF to the investment universe for our global, go-anywhere Decathlon strategies.

Some other changes and notable trends in our positioning include:

  • We sold out of industrials and materials sectors in our sector rotation systems in the second quarter because the trade war is beginning to impact markets in many areas.
  • Trade wars, the strength of the U.S. dollar and increased volatility in emerging markets in general stemmed a re-allocation away from broad EM exposure to more targeted EM exposure. For example, in our international equity allocation within our Sector portfolios we purchased KraneShares CSI China Internet ETF (KWEB). We wanted to reduce or remove exposure we believe to be heavily affected by the ongoing trade war.
  • While we made little to no changes to fixed income exposure, we are watching fixed income closely due to the Fed’s interest rate increases and the potential for an inverted yield curve. While we are not convinced an inverted yield curve is imminent. Historically, an inverted yield curve means that a recession and/or severe market correction would follow within the next 10-20 months.

Charts courtesy of StockCharts.com

Contact Cinthia Murphy at [email protected]

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