As we enter the final quarter of the year, the Consumer Staples Select Sector SPDR (NYSEARCA:XLP) appears poised to be a Q4 standout among our best ETFs for 2020.
A combination of election risk, profit taking and worries over the novel coronavirus cloud hanging over the economy has investors already rotating out of riskier sectors and into steadier ones like consumer staples.
XLP Still Belongs Among the Best ETFs
The sector rotation out of the riskier sectors, such as technology, and into the conventional defensive sector stocks, such as consumer staples, appears to have already begun.
Using the Technology Select Sector SPDR (NYSEARCA:XLK) as a proxy for tech, the sector was down 6.13% in September; whereas, XLP was down only 1.22%. Using the SPDR S&P 500 ETF Trust (NYSEARCA:SPY) as a proxy for the broader market, the FAANG-led index was down 4.03% in September.
Here are factors that may keep the sector rotation headed toward consumer staples in Q4 2020:
- Election risk: The market hasn’t historically favored one party over the other but the potential for higher capital gains rates, should Democrats win the White House and a majority in the Senate, may be cause for investors to take some winnings off the table before year-end.
- Profit taking: The tech sector is a big winner in 2020 and investors may begin factoring in potential headwinds and decide to lock in gains by December. For investors with taxable accounts, tax loss harvesting may also have investors selling their biggest winners and their biggest losers by year-end.
- Economic uncertainty: The last jobs report of September may have investors worried about a longer, slower recovery than what was recently expected. While the unemployment rate fell from 8.4% to 7.9% for September, part of this decline is due to unemployed workers that stopped looking for jobs. These so-called permanent job losses jumped from 345,000 to 3.8 million.
Tech as the ‘New Defensive Play’
To close out my installment for the best ETFs for 2020 contest, I believe this year has one key takeaway to note above all others: The definition of defensive stocks appears to be evolving.
In the past, the conventional defensive play would include sectors such as consumer staples and healthcare. However, technology now shows resilience in tough times because the large-cap tech stocks, such as Apple (NASDAQ:AAPL), Amazon (NASDAQ:AMZN) and Facebook (NASDAQ:FB), can continue to perform well in economic recession.
While it may be foolish to say those four most dangerous words, “this time it’s different,” it’s also foolish to assume that the same defensive strategies will work ad infinitum. Coming into 2020, as I reported in the first installment of the best ETFs for 2020 contest, the economy was clearly in the late-phase of the economic cycle. This would normally favor high-quality, defensive stocks, such as consumer staples. The key word here is “normally.”
2020 was certainly not a normal year, but it does provide a glimpse into what the future holds for capital markets. And investors are wise to take note.
On the date of publication, Kent Thune did not personally hold a position in any of the aforementioned securities. However, he holds XLP, SPY and XLK in some client accounts. Under no circumstances does this information represent a recommendation to buy or sell securities.