Tech ETFs: Legitimate Rising Rates Plays
July 15th 2013 at 9:30am by Tom Lydon
Rising interest rates have received, and rightfully so, ample attention in the financial press in recent weeks. However, for those investors that have been around the block a time or two, the recent spike in 10-year Treasury yields may not be too alarming.
Go back to 1994, a bad year for bonds which translated into a down year for equities, and data from the Treasury Department indicate that 10-year yields opened the year at 5.92% before finishing the year higher by nearly 200 basis points at 7.84%. However, a surprising sector provided investors some shelter from that year’s rising rate storm. [Regional Bank ETFs Boosted by Higher Rates]
BTIG Chief Global Strategist Dan Greenhaus said in a CNBC interview last week “…I don’t think people realize this, during the ’94 bond massacre, which had the stock market down for the year, tech was the best performing sector.” Greenhaus added “It was up something like 16 percent for the year, which obviously had you been exposed there, you were quite happy with what was a pretty terrible time to invest.”
Returns prove that tech did in fact perform well as Treasury yields soared in 1994. For example, Microsoft (NasdaqGS: MSFT) surged almost 53% that year. Cisco Systems (NasdaqGS: CSCO) was not as impressive, but still managed to close up 9.4% in 1994 while Intel (Nasdaq: INTC) also eked out a small gain for the year. International Business Machines (NYSE: IBM) jumped 27.5% in 1994. Those four stocks combine for 23% of the Technology Select Sector SPDR’s (NYSEArca: XLK). [Choosing the Best Sector ETFs]
Remember, the sector SPDR ETFs such as XLK did not debut until late 1998, so we cannot measure the performance of XLK in 1994. However, the notion of the tech sector being a credible rising rate play was confirmed by John Dorfman of the Boston Globe. “In my study, the best sector in which to seek good returns during periods of rising interest rates was information technology,” wrote Dorfman.
At least one of the reasons for this is easy to comprehend: Many of the most widely held, large-cap technology companies hold some of the most impressive free cash hoards in Corporate America. Due to those war chests, tech companies typically are not large borrowers, meaning they are not as vulnerable to rising rates as, say, the utilities sector. [Interest Rate Increase Hits Utilities ETFs]
Confirmation of tech’s relatively meager presence in the domestic corporate bond market can be found with the iShares iBoxx $ Investment Grade Corporate Bond ETF (NYSE: LQD). The largest investment-grade corporate bond ETF allocates just under 6% of its weight to tech, making it the fund’s seventh-largest sector weight.
Technology Select Sector SPDR
ETF Trends editorial team contributed to this post. Tom Lydon’s clients own shares of Cisco, Intel and LQD.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.