Which Safe Haven ETF Should You Buy?

Safe havens are in vogue this year. From gold to bonds to low-volatility stocks, investors have been loading up on safe assets in 2016.

In fact, the SPDR Gold Trust (GLD | A-100), the iShares Core U.S. Aggregate Bond ETF (AGG | A-98) and the iShares Edge MSCI Min Vol USA ETF (USMV | A-69) are the three ETFs with the highest inflows this year. Combined, they've accumulated nearly $22 billion of investor capital through mid-June, according to FactSet data.

Each fund targets a different safe-haven area of the market, and each has performed well this year. But recent performance aside, these are very different products, and investors buy them for very different reasons.

Hedge Against Tail Risks

Of the three safe-haven ETFs, GLD is the most popular this year by far. Its year-to-date inflows of $10.2 billion are second to none. GLD, along with the iShares Gold Trust (IAU | B-100)―which has also seen considerable inflows this year―owns and tracks physical gold bullion.

By betting on gold, investors in these products are hedging against a number of risks. The risk most associated with gold is inflation, but in the current environment of muted price growth, that's not the biggest concern for most investors.

Instead, investors are buying the metal to protect against "tail risks" in the market, or large, unexpected shocks that could derail the financial system and global economy. Inflows into gold began en masse in January of this year, when the second of two back-to-back corrections in the stock market started in earnest.

Some investors also see gold as a hedge against potential currency devaluation. Moreover, with interest rates extremely low (and, in many cases, negative) around the world, the opportunity cost of holding the zero-yielding yellow metal is arguably lower than it has ever been.

On a year-to-date basis, GLD is up 22.2%, but it's down 17.4% over the last five years.

YTD Performance For GLD, AGG, USMV

Risk-Free Bonds

Unlike GLD, the broad-based bond ETF, AGG, offers yield. The fund, which has seen year-to-date inflows of $6.1 billion, has a 30-day SEC yield of about 1.89% and a duration of 5.24 years.

AGG holds U.S. investment-grade bonds, the vast majority of which are Treasurys or other government-backed bonds. Treasurys and debt backed by the U.S. federal government are largely considered "risk free," making them the ultimate safe haven in many investors' eyes.
 

Bonds are doing well this year despite the threat of more interest-rate hikes from the Federal Reserve. Tepid economic growth and central-bank-driven bond-buying programs in Europe and Japan have kept the U.S. bond market well supported (bond prices and yields move inversely).

In fact, with $9 trillion worth of government debt around the world now yielding negative, Treasurys look like a downright bargain.

As long as these ingredients continue to be in place, AGG and other Treasury-heavy ETFs should perform well. On the other hand, an acceleration of economic growth or a sudden bout of inflation would significantly reduce the appeal of these safe havens.

Year-to-date, AGG is up 4.5%, and it's up 18.4% in the past five years.

5-Year Performance For GLD, AGG, USMV

Safe Havens Within The Stock Market

Within the stock market, two sectors are seen as safer than the rest: utilities, and consumer staples. Regardless of what the economy does, consumers need to power their homes and buy toothpaste and other essential goods.

That makes these sectors the least economically sensitive in the stock market, as well as safe havens within the volatile equity space. This year, the Utilities Select Sector SPDR Fund (XLU | A-87) and the Consumer Staples Select Sector SPDR Fund (XLP | A-92) are outperforming the market, with gains of 18.6% and 7.1%, respectively, compared with a 2.4% return for the SPDR S&P 500 ETF (SPY | A-97).

XLU and XLP have also seen considerable investor interest this year, with inflows of more than $1 billion each.

But even more popular has been USMV, an ETF that tracks low-volatility stocks in the U.S. With $5.6 billion in year-to-date inflows, USMV's aim is to hold a "minimum variance" portfolio. It does this by owning stocks with low volatility, while also considering correlations between its various holdings to reduce volatility even more.

Unsurprisingly, USMV's portfolio is chalk full of consumer staples and utilities stocks. The two sectors make up a quarter of the fund's portfolio compared with less than 14% for SPY.

Because the companies within these sectors generally have more stable profit outlooks, they're some of the least volatile stocks in the market.

The investors flocking to XLU, XLP and USMV want to position themselves defensively, while still maintaining their equity exposure. These funds will likely outperform the broader stock market in a flat-to-down market, and underperform if the market takes off.

However, because they are still equity funds, they will get hit hard if the market plunges. That's in contrast to the aforementioned GLD and AGG, which often rise when stocks take a hit.

Year-to-date, USMV is up 7.7%, while it's up 95.3% since inception in October 2011.

Contact Sumit Roy at [email protected].