After eight long years of gains, the bull may be getting a tad bit tired. Stock valuations are near historic highs, there has been some weakness with economic data and the markets have recently begun to take a breather. It seems that the bull might be running out of steam.
And while we can’t predict exactly when the bear will come out of hibernation, the truth is, he’s starting to stir.
With that, a good offense might really be a side of defense — as in defensive ETFs and mutual funds. There are a number of ETFs and funds that can be used to help keep the bear at bay and protect/cushion our portfolios from losses. Now could be the best time to get some of this insurance.
Without further ado, here are the seven best ETFs and mutual funds to weather the upcoming bear.
Obviously, when the correction hits, stocks are going to fall. But that doesn’t mean you have to lose money when they do. You can always go short, and ETFs allow you to do that in tactical way. The Direxion Daily S&P 500 Bear 3X Shares (NYSEARCA:SPXS) is one such ETF.
SPXS seeks to provide a return opposite of the S&P 500 for a single day. The kicker is that SPXS uses leverage to juice its returns — in this case, three times the returns. Basically, if the S&P 500 loses 1% one day, the ETF should return 3%.
Now the key to inverse ETFs like SPXS is that due to daily re-balancing and compounding over time, those returns can look less and less like an exact opposite of the S&P 500. But if stocks start to free fall, inverse ETFs like SPXS will gain.
Another benefit to using inverse ETFs like SPXS rather than physically shorting stocks is that you’re only risking the capital you invest. When you short, your losses aren’t capped — stocks theoretically can go up forever. The worst this fund can do is go to zero. The benefit of the leverage is that you can put very little capital to get a bigger portfolio hedge.
For investors, when the correction hits, ETFs like SPXS make it easy to profit for the downturn and protect your portfolio.
Expense Ratio: 2.86%
A bear market will take down all stocks. But it’ll maul and take out the worst ones. And in that, blindly shorting the market may not provide enough oomph. That’s where the actively managed AdvisorShares Ranger Equity Bear ETF (NYSEARCA:HDGE) comes in.
HDGE does short stocks. The difference is that the managers of this bear market ETF are free to move around the market to find the best candidates to short. The fund’s managers select short positions based on various fundamental screens. These include such factors as low earnings and aggressive accounting practices. Top holdings currently include Snap-on Incorporated (NYSE:SNA) and Harley-Davidson Inc (NYSE:HOG).
As a dedicated bear market fund, HDGE has been a terrible performer so far. Launching in 2011, the ETF has been stuck right in the middle of the surging bull. That has left returns that are less than desirable — as in a big-time loss. However, when the market has swooned, HDGE has shown its mettle. And that performance in market troubles underscores why the ETF is a great defensive buy.
The real downside is that HDGE is expensive to own — due it costs on shorting. Expenses run 2.86% or $286 per $10,000 invested.
Some sectors continue to make money no matter what the economy is doing. One of the best is the consumer staples sector. After all, you still need to wash clothes, brush your teeth and eat. As a result, the sector is great for weathering a bear markets or recessions.
And when it comes to consumer staples, the uber-popular Consumer Staples Select Sector SPDR (NYSE:XLP) is still the top draw.
XLP tracks all the consumer staples in the S&P 500 — all 34 of them. That’s plenty of recession-resistant power within one ticker. Just keep in mind that “consumer staples” isn’t always products. XLP also includes retail locations such as Costco Wholesale Corporation (NASDAQ:COST) and CVS Health Corp (NYSE:CVS).
XLP has delivered 9.33% annual total returns on average over the past decade. Part of that hefty performance comes from a 2.6% dividend yield.
Expenses are cheap, too, running at 0.14%, or $14 annually per $10,000 invested. So the fund makes a great cheap choice to play the safety of the sector.
The weather report for the U.S. could read like “all signs are sunny with a slight chance of recession.” For the most part, things are going pretty good. But there’s plenty of uncertainty and rising volatility.
Which is why the iShares Edge MSCI Min Vol USA ETF (BATS:USMV) maybe a good bet when it comes to defensive ETFs.
USMV uses screens to kick out high-volatility stocks and capture the upside of the market. That also limits the downside as well as the “bounciness” associated with market movements. Currently, the $14 billion ETF holds 159 different stocks, including Becton, Dickinson and Co (NYSE:BDX) and PepsiCo, Inc. (NYSE:PEP).
USMV’s underlying index has done a good job of fighting volatility and downside risk. Back in 2008, the broader MSCI USA index was down 37% while USMV was only down 26%. Meanwhile, the ETF has managed to do a good job in capturing much of the upside in the markets.
With a dirt-cheap expense ratio of 0.15%, there’s no reason not to hold a portion of your portfolio in USMV as insurance.
Bonds continue to be the place to hide out from market troubles and they provide plenty of ballast for a portfolio. But when interest rates rise, bonds fall, and vice versa. And the longer-dated your bond is, the more likely it is to fall when rates rise. With the Fed tinkering, going long is going to sting.
The Vanguard Short-Term Bond Index Fund Investor Shares (MUTF:VBISX) is the best way to get around this problem.
VBISX tracks the Bloomberg Barclays U.S. 1-5 Year Government/Credit Float Adjusted Index, which provides exposure to the short-term, investment-grade U.S. bond market. That includes Treasury and corporate bonds for a total of 2,496 different fixed-income securities.
The real benefit in using VBISX over other longer-dated bond ETFs is that the fund will have an easier time rolling over its bonds due to the shorter maturity mandate. This lower duration — currently 2.7 years — should help the fund stand its own against rising interest rates and be the rock that bonds are supposed to be.
Short-term bonds do yield less as a result, so you’re looking at just 1.79% of SEC yield at the moment. But you’re not losing much of that to low expenses of just 15 basis points.
Expense Ratio: 1.4%
“Safe haven” and gold pretty much go hand-in-hand. The precious metal traditionally acts as a form of protection during times of global distress. When global stock markets hit rough waters, the yellow metal tends to move in the opposite direction. That benefits the physical metal as well as the miners who dig it out of the ground.
The Tocqueville Gold Fund (MUTF:TGLDX) allows you to tap both.
The mutual fund is run by John Hathaway and can invest in a variety of precious metals- including gold, silver and platinum- as well as the companies that are engaged in mining or processing. No more than 20% of its portfolio can be held directly in the metal, however. Currently, about 13% of its portfolio is in physical gold, while Agnico Eagle Mines Ltd (USA) (NYSE:AEM) and Franco Nevada Corp (NYSE:FNV) round out the top stocks.
Hathaway has been a stellar manager and has guided TGLDX to become one of the better-performing precious metals funds since its inception in 1998. Keep in mind, that performance has been volatile over its history. But when the markets were going insane during the recession, Hathaway’s guidance helped the fund navigate the waters and return some hefty amounts.
For investors looking for the ultimate safe haven, TGLDX and gold could be a great place to look.
Expense Ratio: 1.49%
Betting on mergers and acquisition (M&A) activity is a time-honored strategy to get constant and absolute returns. Merger arbitrage seeks to gain from the spread between the first announcement of an acquisition and the final purchase price. Stocks will general climb to almost the buyout price because there is a chance a deal could get canceled. While that 10 to 50 cents per share may not seem like much, the accumulation of this strategy repeatedly will get you a nice and steady profit.
The Merger Fund Investor Class (MUTF:MERFX) is one of the few ways investors can win using this M&A strategy.
As the name suggests, the fund will buy takeover candidates and hold them through the buyout, snagging the few pennies per share in buyout mark-up. You won’t get rich with MERFX, but that’s not the point. It’s steady gains.
And steady the fund has been. Since its inception in 1989, the fund has managed to produce a 6.11% annual average return. That’s not shabby at all considering its bond like low-volatility. For investors, M&A and MERFX are great ballast if/when the bear market hits.
As of this writing, Aaron Levitt did not hold a position in any pf the aforementioned securities.