Cyclical ETFs power up as market rally broadens

Aug 17th, 2020 | By | Category: Equities

ETFs providing exposure to cyclical sectors are outperforming in the latest stage of the equity rally, after months of lagging the broader market.

Cyclical ETFs power up

Cyclical stocks have powered the latest leg of the equity rally in a sign of broader market support from investors.

While the SPDR S&P 500 ETF (SPY US) has gained 3.2% month-to-date (data as of market close 14 August), its sector-focused counterparts that track economically sensitive sectors such as industrials, energy, consumer discretionary, and financials have pushed ahead.

Of these, the Industrial Select Sector SPDR Fund (XLI US) leads the pack with a rise of 8.1% month-to-date, followed by the Energy Select Sector SPDR Fund (XLE US), which has advanced 6.1%; the Consumer Discretionary Select Sector SPDR Fund (XLY US), up 4.8%; and the Financial Select Sector SPDR Fund (XLF US), up 4.7%.

The surge in industrials has been powered in part by bullish sentiment for airline stocks, as demonstrated by the 12.2% rise in the US Global Jets ETF (JETS US).

JETS continues to draw investors’ interest and has attracted over $1.3 billion in net inflows since March including $138 million month-to-date in August. Assets under management have swelled to nearly $1.5bn from just $35m in February.

Investors in JETS have experienced a bumpy ride, though, as volatility in airline stocks has soared due to air travel demand being inextricably linked to the Covid-19 pandemic. The rolling one-year volatility for JETS has climbed from roughly 18% at the start of the year to 62.5% mid-August. In contrast, the rolling one-year volatility for SPY is up from approximately 12% to 33.3% over the same period.

Oil prices, meanwhile, have continued to rise on hopes of a smooth economic recovery, helping to revive confidence in crude markets following unprecedented volatility and negative oil prices earlier in the year. Front-month contracts for West Texas Intermediate and Brent varieties are currently trading at five-month highs; however, the outlook for US shale producers remains murky with Covid-19 continuing to limit demand and OPEC reportedly planning to expand their own supply after tapering since May.

US homebuilders have also notched up superior returns with the iShares US Home Construction ETF (ITB US) gaining 4.8% month-to-date. Housing sales have rebounded strongly from a six-year low in April, boosted by record-low mortgage rates and early signs of a post-pandemic suburban revival.

The outperformance of previously lagging cyclical sectors will likely be cheered by investors concerned that a market rally dominated by the technology sector is unsustainable. The Technology Select Sector SPDR Fund (XLK US) has gained 3.1% month-to-date in line with the broader market. The fund is, however, up 25.1% year-to-date, compared to just 5.2% for the S&P 500.

Despite broader market support in August, many will still be questioning whether another downturn in the near future is inevitable. The dichotomy between the stock market and economic reality remains stark – the S&P 500 is approaching a new all-time high yet unemployment remains significantly elevated and GDP contraction in the second quarter was the worst since the 1940s.

On the other side of the Atlantic, cyclical sectors also played a key role in boosting the European equity market.

While the broad market iShares STOXX Europe 600 UCITS ETF (0MLD LN) has gained 3.4% in euro terms since the start of August, the iShares STOXX Europe 600 Oil & Gas UCITS ETF (0MOH LN) has advanced 7.3%, the iShares STOXX Europe 600 Construction & Materials UCITS ETF (SXOPEX GY) 6.5%, the iShares STOXX Europe 600 Industrial Goods & Services UCITS ETF (SXNPEX GY) 6.1%, and the iShares STOXX Europe 600 Banks UCITS ETF (0MNK LN) 5.9%.

Consumer stocks have emerged as the biggest winners with travel companies and automobile manufacturers in particular striding ahead. The iShares STOXX Europe 600 Travel & Leisure UCITS ETF (SXTPEX GY) has gained 9.9% month-to-date, despite the sudden introduction of quarantine rules disrupting holidays for many travelers, while the iShares STOXX Europe 600 Automobiles & Parts UCITS ETF (SXAPEX GY) has risen 10.9%. The iShares STOXX Europe 600 Retail UCITS ETF (SXRPEX GY) has also outperformed, with a gain of 5.6%.

Europe’s technology rally, which has also powered the market in recent months, appears to be losing steam. The iShares STOXX Europe 600 Technology UCITS ETF (SX8PEX GY) has added just 2.3% month-to-date, below the market average. The fund is up 8.4% year-to-date, compared to a -9.9% loss for the STOXX Europe 600.

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