Exchange traded fund investors have to adapt to a dynamic market. Currently, we are seeing a shift in sector and style rotation within the equities market and vulnerability in short- and medium-term Treasuries.
In the equities space, some of last year’s outperformers are beginning to stumble, Russ Koesterich, Managing Director, BlackRock’s Global Chief Investment Strategist, said in a note. For instance, the biotech sector has declined 15% from its peak in February.
“In one sense, this shift suggests that glamorous, high-momentum types of stocks are less in vogue,” Koesterich said. “It also speaks to the fact that the market appears to be experiencing a rotation away from growth and into value styles.”
The iShares S&P 500 Growth ETF (NYSEArca: IVW) dipped 0.7% over the past month, whereas the iShares S&P 500 Value ETF (NYSEArca: IVE) rose 2.6%. [Value ETFs May be the New Black]
Koesterich attributes the shift to fading momentum trading and widening difference in relative valuations – growth stocks were trading almost at a 40% premium to value stocks as of the end of March, compared to the 10-year average of 25%.
“Should this rotation continue, one of the beneficiaries would likely be U.S. large- and mega-cap stocks, which are trading at a significant discount to small- and mid-cap areas of the market,” Koesterich added.
The SPDR S&P 500 ETF (NYSEArca: SPY) has increased 21.8% over the past year while the iShares Russell 2000 ETF (NYSEArca: IWM) is up 24.9%.
The BlackRock strategist also singles out the financial sector as a potential play on the large-cap value trend, arguing that financial stocks “appears attractive and has been seeing strong inflows recently.”
The Financial Select Sector SPDR (NYSEArca: XLF) increased 2.6% year-to-date. [Two ETF Sector Bets for April]
In the fixed-income space, Koesterich cautions against short- and mid-term duration bonds as these securities will experience higher volatility and be more sensitive to rate hike expectations in the federal fund rate.
“Last year investors would have done well to avoid long-duration Treasuries, but this year it is the short to middle part of hte yield curve that appears vulnerable (specifically the two- to five-year segment,” Koesterich warned.
The iShares 1-3 Year Treasury Bond ETF (NYSEArca: SHY) is up 0.1% and iShares 3-7 Year Treasury Bond ETF (NYSEArca: IEI) is up 0.7% year-to-date. Meanwhile, the iShares 20+ Year Treasury Bond ETF (NYSEArca: TLT) increased 7.6% so far this year. [ETFs for the end of ZIRP]
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Max Chen contributed to this article.
Full disclosure: Tom Lydon’s clients own shares of IWM, SPY, TLT and SHY.