ETFs that make the most of market volatility

Yahoo Finance Canada
The Toronto Stock Exchange has seen some ups and downs (and recently, a huge drop) in the last three months. (Yahoo Canada Finance)
The Toronto Stock Exchange has seen some ups and downs (and recently, a huge drop) in the last three months. (Yahoo Canada Finance)

While experts agree the volatility we’ve seen in the past few weeks is here to stay, they also say there are some Exchange Traded Funds (ETFs) out there that can help you weather the storm, and can even take advantage of the unsettled markets.

Forstrong Global ETF strategist Tyler Mordy says volatility comes in many stripes and investors should take advantage of short-term changes in the market to enhance their portfolios.

“If investors are concerned about the short-term volatility, then they ought to have a process to look at it more opportunistically,” he told Yahoo Canada Finance. “We don’t think this is the start of a bear market.”

Investing overseas

Mordy says in the midst of the recent volatility he was buying into China, Japan and Europe. Specifically, the China Large-Cap (FXI), MSCI Japan (EWJ) and MSCI EAFE Small-Cap (SCZ) ETFs from iShares.

“We like stocks in the country equities of Europe, Japan, Asia and other emerging markets simply because they’re cheaper and also because their recoveries post crisis started a lot later than the U.S. market did,” he said. “If one focuses on the long term then the longer term returns for the U.S. equity market are likely to be mediocre.”

While Europe hasn’t been a favourite for investors lately, Mordy sees opportunities in that market.

“Europe is a place that many managers have not focused on for a long, long time,” he said. “But the economies are actually growing in the Eurozone are growing quicker than the United States — at least they did last year in 2017 and there’s more side to momentum there than here at home.”

For younger investors in particular, Mordy recommends they put a large portion of their portfolio in emerging markets.

“You look at the way the world is going from a purchasing power parity, emerging markets economically are already larger than developed markets,” Mordy added. “In the west, we have aging demographics, low interest rates, expensive markets, all those types of things, and generally in the emerging markets, we have young demographics, we have low debt levels.”

Mordy believes investors typically have the belief that emerging markets are risky, in part due to political corruption, but he says those countries are improving and political dysfunction that has plagued some emerging markets is now seen in the U.S. and Europe, too.

“If you think of the dysfunction in Europe over the last 10 years, it’s absolutely agonizing to watch. In many respects that has come to the U.S., too,” he said. “I’d rather buy into an economy that’s improving at the margin, is a lot cheaper than its U.S. counterpart and is moving in the right direction rather than moving in the wrong direction.”

Investing in the U.S.

Mordy does believe there is still some value in the U.S. market.

“We like the U.S. financial sector. We like U.S. banks. Banks have not been a great place to be for a long time. That’s changing,” he said. “The cheap interest rates are increasing, which is good for their profits and regulation in the U.S. is coming down.”

Neville Joanes, CIO of Wealthbar, says his clients still want access to the U.S. equity market, which remains the world’s largest, and he predominantly recommends U.S. ETFs.

“Most U.S. equities make up the majority of global equities that trade on a daily basis, so you don’t want to turn away from this source of returns given that even though interest rates are rising, it’s still very low.”

Joanes recommends, ZWA (BMO Covered Call Dow Jones Industrial Average Hedged to CAD ETF), a covered call ETF that has more U.S. equity growth exposure.

“It is buffered by a three per cent to four per cent annual premium collected from the calls,” he said. “The covered calls moderate the volatility of the portfolio slightly, and offer a higher income stream.”

Another alternative is ZUQ (BMO MSCI USA High Quality Index ETF), which Joanes says is heavily weighted in IT, but also includes the likes of Mastercard and Visa.

“It protects against risk, but is not particularly overweighted in interest-rate sensitive sectors which have seen added volatility,” he said. “Overall, ZUQ offers exposure for some growth, with some protection against a correction.”

To minimize market risk, Joanes says XMS (iShares Edge MSCI Min Vol USA Index ETF) is a low beta option.

“Historically, this strategy reduces losses during market declines, but helps capture gains in rising markets,” he adds.

Long-term bets

With marijuana legalization around the corner, a lot of attention has been drawn to Horizons Marijuana Life Sciences Index ETF (HMMJ).

However, Mark Noble, head of sales strategy at Horizons ETFs Management (Canada), says it isn’t for the faint of heart as it was up over 100 per cent in the last three months ending in January, but it also lost almost 30 per cent towards the end of January into February. The ETF then rebounded 15 per cent when the equity market was down.

“We have to be very honest here. We think this is a very attractive long-term investment opportunity particularly as the new industry arrives,” he said. “There’s a lot of opportunity there, but there’s going to be some really big bumps along the way.“

He believes marijuana could be in the leagues of alcohol and tobacco consumption, possibly becoming a $4-6 billion market in Canada alone.

For long-term growth, Nobel also recommends Horizons Robotics and Automation Index ETF (ROBO), which provides exposure to robotics, automation and artificial intelligence. He says it’s about a $64-billion industry now but is one expected to be worth about a trillion dollars around 2025.

“These companies have earnings now because they’re building all the infrastructure for the Samsungs, the Apples, the Googles, the Amazons to go out and start to take all of the advancements in digital development and put them into automation and robotics and artificial intelligence,” he said. “You’ve got growth opportunity like marijuana where there’s large projections for uptake of the marijuana side, but those companies don’t really have earnings.”

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