Higher Yielding Income ETFs Pull Back... Are Stock ETFs Next?

Includes: EZU, HYG, PCY, SPY, VTI
by: Gary Gordon

The S&P 500 set an all-time record high on 10/9/2007. Three weeks earlier, the iShares High Yield Corporate Bond Fund (NYSEARCA:HYG) had reached its pinnacle, and then promptly began falling from grace.

Does this suggest that when low-rated bonds begin to struggle, stocks are not far behind? If so, what should we make of the fact that HYG appears to be falling from its 2013 peak, even as the S&P 500 pushes upward?

There is a similar phenomenon occurring with other areas in the fixed income universe. For example, PowerShares Emerging Market Sovereign Debt (NYSEARCA:PCY) had been highly correlated to the stock market in 2012. In recent weeks, however, emerging market bonds have lost some of that lower volatility, higher yielding charm. The exchange-traded tracker is trading near its long-term (200-day) moving average.

Personally, I am still invested in diversified higher-yielding income ETFs such as iShares High Yield Corporate (HYG) and Powershares Emerging Market Sovereign (PCY). For one thing, I believe corrective activity in this arena is healthy. Additionally, I have a wide variety of tools — hedges, stops, trendlines — to help manage the downside risk for my clients.

Granted, the recent rise in U.S. Treasury bond rates have put pressure on the space. However, the U.S. Federal Reserve is not about to let interest rates rise unchecked. It follows that higher yielding income ETFs may continue pulling back, but they are likely to see strong demand when Treasuries themselves stabilize.

The question that many people want answered (Is the stock market about to tumble?) requires a crystal ball. Alas, nobody owns one of those.

Nevertheless, intra-day price volatility for stock assets is widening. And while Vanguard Total Stock Market (NYSEARCA:VTI) is up roughly 1% in the last 5 days, the troubled eurozone via iShares European Monetary Union (BATS:EZU) has posted a -3.3% loss in the same time frame.

Will geo-political concerns in Italy and Spain create doubt in the minds of bull market advocates? Are investors capable of ignoring U.S. budget uncertainty, or is a 3%-5% pullback more likely?

Indeed, the Fed may have made certain that traditional Treasuries are risky relative to the potential reward. Yet stock ETFs pullbacks are a normal part of the process. You’re better off waiting for that pullback and/or purchasing in increments.

Disclosure: Gary Gordon, MS, CFP is the president of Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC. Gary Gordon, Pacific Park Financial, Inc, and/or its clients may hold positions in the ETFs, mutual funds, and/or any investment asset mentioned above. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities. At times, issuers of exchange-traded products compensate Pacific Park Financial, Inc. or its subsidiaries for advertising at the ETF Expert web site. ETF Expert content is created independently of any advertising relationships.