After a terrible start to the year, the U.S. stock market made a stunning comeback in the last six weeks of the first quarter. This is especially true as the major U.S. bourses recouped all the losses after falling more than 14% (as of February 11) from their recent peak levels. Notably, both the S&P 500 and Dow Jones were in the green at the end of the quarter, having logged in 0.8% and 1.5% gains, respectively (read: Top and Flop Zones of Q1 and Their ETFs).
The impressive rally was driven by a rebound in oil prices, a spate of upbeat U.S. economic data, extra easing policies in Europe and Japan, and stabilization in the Chinese economy. Additionally, the Fed's dovish comments infused more optimism in the stock markets lately. The bullish trend is likely to continue at least in the second quarter given the substantial improvement in the economy, an accelerating job market, pick-up in inflation as well as increasing consumer confidence.
Further, the Fed is not expected to raise interest rates anytime soon given the global growth concerns that should drive the U.S. stocks higher. Nevertheless, bouts of volatility will keep threatening the bulls. Some of the headwinds include relatively higher valuations, risk of earnings weakness like what we saw in the fourth quarter, and oil price instability.
As the U.S. economy is leading the way amid global uncertainty, investors should focus on the domestic market. We have highlighted five picks for Q2 that should outperform and cost less than many other products. These funds have either a Zacks Rank of 1 (Strong Buy) or 2 (Buy).
iShares MSCI USA Minimum Volatility ETF (USMV – ETF report)
Low volatility products generate impressive returns or often outperform in an uncertain or a crumbling market while providing significant protection. This is because these funds include more stable stocks that have experienced the least price movement in their portfolio. As a result, low-volatility strategies appear safe in a turbulent market, and reduce losses in declining markets while generating decent returns when the markets rise (read: Can Low Volatility ETFs Save Your Portfolio from Market Rout?).
As such, USMV could be a great pick with AUM of $11.3 billion and expense ratio of 0.15%. It offers exposure to 168 U.S. stocks having lower volatility characteristics than the broader U.S. equity market by tracking the MSCI USA Minimum Volatility Index. The fund is well spread across a number of securities with none holding more than 1.71% of assets. From a sector look, financials, health care, information technology and consumer staples take the top four spots with a double-digit allocation each. The fund trades in solid volume of 3 million shares a day and has gained 6.4% in the year-to-date time frame. It has a Zacks ETF Rank of 2.
SPDR S&P Dividend ETF (SDY – ETF report)
Dividend-focused ETFs have been riding high this year on investors' drive for income amid heightened uncertainty in the stock market. This is because dividend paying securities are the major sources of consistent income when returns from the equity market are at risk. Dividend-focused products offer safety in the form of payouts and stability in the form of mature companies that are less immune to the large swings in stock prices. Further, longer-than-expected interest rates have made this corner a hot investment area. As a result, SDY seems an interesting choice for the second quarter (read: Dividend ETF (SDY – ETF report) Hits New 52-Week High).
This is one of the popular and liquid ETFs in the dividend space with AUM of $13.2 billion and average daily volume of about 940,000 shares. This fund provides exposure to the 109 U.S. stocks that have been consistently increasing their dividend every year for at least 25 years. This can be done by tracking the S&P High Yield Dividend Aristocrats Index. Though the fund is slightly skewed toward the financial sector with 22.7% share, industrials, utilities, consumer staples, and materials make up for a nice mix in the portfolio with a double-digit allocation each. The fund charges 35 bps in fees per year and yields 2.51% in annual dividend. It has added 9.9% so far this year and has a Zacks ETF Rank of 2.
Consumer Discretionary Select Sector SPDR Fund (XLY – ETF report)
With the U.S. economy on a modest growth path and the spring season underway, the consumer discretionary sector is expected to get a boost. The auto industry is booming, the manufacturing industry seems to be stabilizing having ended a five-month declining streak with accelerated production and rising new orders, and the housing market is geared up for the spring buying fervor. Further, cheap financing will continue to entice consumers to buy more homes and avail auto loans, thereby propelling the stocks of this sector higher.
While there are several options to play the surge in the sector, the ultra-popular XLY having AUM of $10.7 billion and average daily volume of round 8.2 million shares looks attractive. It tracks the Consumer Discretionary Select Sector Index and holds 88 securities with higher concentration on the top four firms at 30%. Other firms hold less than 4.9% share each. In terms of industrial exposure, media takes one-fourth share while specialty retail, internet retail, and hotels, restaurants & leisure round off the next three spots with a double-digit exposure each. The fund charges 14 bps in fees per year and has added 2% so far this year. It has a Zacks ETF Rank of 1 (read: Forget Retail, Focus on Broad Consumer ETFs).
SPDR S&P Homebuilders ETF (XHB – ETF report)
A solid labor market along with affordable mortgage rates will continue to fuel growth in a recovering homebuilding sector, creating a buying opportunity in homebuilders and housing-related stocks. In addition, slower and gradual rate hikes will not impede the growth prospect of the sector, at least in the second quarter. The most popular choice in the homebuilding space, XHB, follows the S&P Homebuilders Select Industry Index.
In total, the fund holds about 37 securities in its basket with none accounting for more than 5.73% share. The product focuses on mid-cap securities with 65% share, followed by 27% in small caps. The fund has amassed about $1.5 billion in its asset base and trades in heavy volume of about 3.6 million shares. Expense ratio comes in at 0.35%. XHB has lost modestly 0.1% in the year-to-date timeframe and has a Zacks ETF Rank of 2 (read: Are Housing ETFs Ready to Ride on Spring Selling Season?).
iShares 20+ Year Treasury Bond ETF (TLT – ETF report)
Treasury bonds, in particular the long-term ones, are the biggest beneficiaries of lower interest rates. The longer the duration, the more sensitive the fund is to the changes in interest rates. As such, bonds having a higher duration will experience significant gains for as long as interest rates remain low. Additionally, long-term bonds will continue to get an impetus from the negative interest rates in the other developed world like Europe and Japan that made the U.S. bonds attractive to foreign investors (read: Sector ETFs to Benefit from Global Negative Interest Rates).
Given this, the ultra-popular long-term Treasury ETF – TLT – looks exciting for the second quarter. It tracks the Barclays Capital U.S. 20+ Year Treasury Bond Index, holding 32 securities in its basket. The fund focuses on the top credit rating bonds with average maturity of 26.61 years and effective duration of 17.77 years. It charges 15 bps in annual fees and exchanges about 8.7 million shares in hand per day. With AUM of $8.1 billion, TLT has gained 8.6% so far this year and has a Zacks ETF Rank of 2.
