Investors can consider sector-specific exchange traded funds to play a rising inflationary environment.
Specifically, materials and energy sector plays may be better positioned to weather inflationary pressures, Reuters reports. The two sectors are more tightly tied to price moves in the commodities and raw materials markets, which have reached new heights recently.
As a way to track these two segments, investors can look to materials options like the Materials Select Sector SPDR (NYSEArca: XLB), iShares U.S. Basic Materials ETF (NYSEArca: IYM), Vanguard Materials ETF (NYSEArca: VAW), and Fidelity MSCI Materials Index ETF (NYSEArca: FMAT).
Additionally, for energy sector exposure, investors can turn to the Energy Select Sector SPDR (NYSEArca: XLE), Vanguard Energy ETF (NYSEArca: VDE), iShares U.S. Energy ETF (NYSEArca: IYE), and Fidelity MSCI Energy Index ETF (NYSEArca: FENY).
Many investors have already shifted into cyclical sectors, expecting to capitalize on the “reflationary” trade. For example, financials stocks rallied this year as longer-dated Treasury yields increased. However, investors should note that if the Federal Reserve hikes short-term rates to dampen inflation, the yield curve would flatten, so “the spread between borrowing and lending narrows for the banking sector and results in a net interest margins squeeze,” according to BCA Research.
“Depending on how far up the inflation expectations you want to move, financials benefit and then at some point they don’t,” Jack Janasiewicz, portfolio manager at Natixis Investment Managers, told Reuters.
Industrials, another cyclical play that has done well, are “located in the middle of the economic value chain and thus (have) diminishing power to pass on inflationary cost increases,” according to BCA.
“Keep the S&P industrials index in the overweight basket early on into an inflationary spike,” BCA said in a note, “but do not overstay your welcome as inflation endures.”
For more information on the various market sectors, visit our sector ETFs category.