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Summary

  • I searched for ETFs that have shown to have low volatility in the short-term, and the long-term.
  • I then looked at how 14 select ETFs from different areas of focus performed during the last four years where a correction occurred.
  • I found that based on historical corrections the three areas of focus that performed the best were: Defensive Equities, Long-Term Bonds, and the U.S. Dollar.

In this article, I will be creating a defensive portfolio by looking at how different asset classes have performed during corrections during the last 5 years. I recently read an article on ETFdb.com about how some defensive ETFs have performed during market corrections. The author focused on comparing four ETFs to the S&P 500 (NYSEARCA:SPY), and they are listed in the table below. While I believe this is a good starting list, I wanted to see a more complete picture with many more asset classes represented.

(NYSEARCA:XLP)

Consumer Staples Select Sector SPDR ETF

(NYSEARCA:XLU)

Utilities Select Sector SPDR ETF

(NYSEARCA:UUP)

PowerShares DB USD Bull ETF

(NYSEARCA:GLD)

SPDR Gold Trust ETF

For my search for defensive ETFs, I used the Fidelity ETF Screener to find ETFs I could use to construct a defensive portfolio. After entering the screener criteria below, I found that 82 ETFs were remaining, and out of those, I found 14 ETFs representing different market areas to focus on, and are listed in the table below my screen criteria.

Fidelity Screener Criteria

  • Include All ETFs
  • ETP type: Exchange Traded Fund
  • Leveraged/Inverse Factor: NOT 2x, 3x,-2x,-3x
  • Inception Date: Before 4/26/2010
  • Assets: >100 Million
  • Volume 90 day avg: >10 Thousand
  • Standard Deviation 3yr: <10
  • Standard Deviation 1yr: <10

Defensive ETF List

Symbol

Description

Focus Area

(NYSEARCA:AGG)

ISHARES CORE U.S. AGGREGATE BOND ETF

Total Bond Market

(NYSEARCA:AOK)

ISHARES CONSERVATIVE ALLOCATION ETF

Conservative Allocation

(NYSEARCA:BIV)

VANGUARD INTERMEDIATE-TERM BOND ETF

Intermediate Bonds

(NYSEARCA:BLV)

VANGUARD LONG-TERM BOND ETF

Long-Term Bonds

(NYSEARCA:BSV)

VANGUARD SHORT-TERM BOND ETF

Short-Term Bonds

(NYSEARCA:BWX)

SPDR BARCLAYS INTERNATIONAL TREASURY BOND ETF

International Bonds

(NYSEARCA:DEF)

GUGGENHEIM DEFENSIVE EQUITY ETF

Defensive Stocks

(NYSEARCA:EMB)

ISHARES J.P. MORGAN USD EMERGING MARKETS BOND ETF

Emerging Market Bonds

(NYSEARCA:MINT)

PIMCO ENHANCED SHORT MATURITY EXCHANGE-TRADED FUND

"Cash"

(NYSEARCA:PBP)

POWERSHARES S&P 500 BUYWRITE PORTFOLIO

S&P 500 Covered Call

(NYSEARCA:PCEF)

POWERSHARES CEF Income COMPOSITE PORTFOLIO

Closed End Funds

(NYSEARCA:PFF)

ISHARES U.S. PREFERRED STOCK ETF

Preferred Stocks

(NYSEARCA:QAI)

IQ HEDGE MULTI-STRATEGY TRACKER ETF

Hedge Fund Strategy

POWERSHARES DB US DOLLAR INDEX BULLISH FUND

Dollar

Results

Using the dates of corrections from the ETFdb article, I collected total return data from dividendchannel.com for each of the above funds for each correction period.

4/26/10-7/1/10

5/10/11-10/4/11

4/2/12-6/4/12

9/14/12-11/16/12

5/22/13-6/24/13

1/15/14-2/5/14

Stocks

DEF

-8.18%

-9.59%

-4.15%

-3.78%

-6.86%

-3.34%

PBP

-11.36%

-12.50%

-5.58%

-4.94%

-3.18%

-4.08%

Bonds

AGG

3.47%

4.51%

2.22%

1.16%

-3.23%

0.89%

BIV

4.85%

6.11%

3.59%

1.80%

-5.09%

1.48%

BLV

6.70%

16.67%

9.60%

5.25%

-8.09%

2.36%

BSV

1.63%

1.41%

0.63%

0.23%

-1.16%

0.37%

BWX

-1.90%

-2.18%

-1.05%

-2.16%

-1.83%

1.03%

EMB

-0.10%

-2.55%

-1.58%

0.34%

-12.61%

-0.78%

MINT

0.25%

-0.75%

0.09%

0.27%

-0.22%

0.06%

Other

AOK

-2.67%

-3.04%

-2.47%

-1.67%

-3.92%

-1.54%

PCEF

-8.37%

-13.63%

-4.56%

-3.17%

-9.95%

-0.75%

PFF

-3.13%

-11.68%

-1.00%

-0.62%

-6.34%

0.37%

QAI

-2.82%

-3.03%

-2.20%

-0.36%

-4.66%

-1.62%

UUP

3.23%

4.86%

4.39%

2.77%

-2.32%

-0.05%

I then calculated the average return for each of the above funds, and for each asset class, I selected the best performing ETF to include in my defensive portfolio. The best performing areas I focused on was DEF for defensive equities, BLV for long-term bonds, and UUP for the U.S. Dollar.

Stocks

Average

DEF

-5.98%

PBP

-6.94%

Bonds

AGG

1.50%

BIV

2.12%

BLV

5.42%

BSV

0.52%

BWX

-1.35%

EMB

-2.88%

MINT

-0.05%

Other

AOK

-2.55%

PCEF

-6.74%

PFF

-3.73%

QAI

-2.45%

UUP

2.15%

Closing Thoughts

In closing, I looked at the historical performance a volatility weighted portfolio of DEF, BLV, and UUP using ETFreplay.com. Because each of the ETFs on my list are defensive, I chose to inversely weight the portfolio based on volatility to capture more upside. The allocations are as follows: 40% Allocation to ETF with highest Volatility, 35% to the ETF with 2nd highest Volatility, and 25% to the ETF with the lowest volatility. In addition, knowing in hindsight that BLV has benefited because of rates falling since April of 2010, I also included what the portfolio returns would have been if BIV, BSV, and AGG were substituted in place depending on an investor's view on rising rates in the future. I chose these as potential replacements for BLV because they each had an average return during corrections that were positive. For the table below I used the starting date of April 26th, 2010, which was the start date of the first correction in the ETFdb article. I found that the portfolio of DEF, BLV, and UUP, provided the best risk adjusted returns since then. Going forward if interest rates rise, that will most likely not be the case and the portfolio with intermediate or short-term bonds will outperform a portfolio with long-term bonds. In closing, I believe my overall list of 14 ETFs that I collected data for are a good start for investors looking for defensive ETFs across multiple investment areas.

40% DEF, 35% BLV, 25% UUP40% DEF, 25% BIV, 35% UUP40% DEF, 25% BSV, 35% UUP40% DEF, 25% AGG, 35% UUP
SPY
Return77.80%47.40%37.20%32.40%34.80%
Volatility16.40%5.00%4.50%4.70%4.60%
Return/Volatility4.749.488.276.897.57

Disclaimer

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Source: Constructing A Simple Defensive Portfolio