Considering a Purchase of These ETFs Ahead of the Anticipated Federal Interest Rate Reduction?
The Federal Reserve's latest projections suggest an 82% chance of a 25-basis-point cut in September, and there's a 56% chance of a second cut in October, according to CME FedWatch. This has prompted tactical investors to consider Exchange-Traded Funds (ETFs) that could potentially benefit from a rate-drop or two later in 2025.
Growth-oriented ETFs could be appealing buys, as rate cuts lower borrowing costs and increase the present value of future profits, making growth stocks (especially tech and small-caps) more attractive. These companies often rely on external funding, so cheaper capital boosts their earnings potential.
Dividend-focused ETFs are also worth considering, as investors tend to flock to dividend-paying stocks for income when interest rates drop. ETFs like the Schwab U.S. Dividend Equity ETF (SCHD) and the Vanguard International High Dividend Yield ETF (VYMI) are examples that benefit because they offer relatively high, stable yields and lower volatility in uncertain markets.
More broadly, ETFs investing in sectors sensitive to rate changes and economic shifts could gain as rate cuts usually stimulate economic growth and increase market liquidity.
One such ETF is the Vanguard Real Estate ETF (VNQ), which holds more than 150 REITs representing a broad swath of U.S. real estate. Its top holdings include American Tower (AMT), Digital Realty Trust (DLR), and Simon Property Group (SPG). The VNQ has assets under management of $33.4 billion, a dividend yield of 3.9%, and expenses of 0.13%.
Another promising ETF is the Avantis U.S. Small Cap Value ETF (AVUV), an actively managed fund that looks for small companies with high profitability ratios that trade at attractive valuations. Its portfolio includes nearly 800 companies such as Air Lease (AL) and Five Below (FIVE). The AVUV has assets under management of $16.8 billion, a dividend yield of 1.8%, and expenses of 0.25%.
The Schwab U.S. Dividend Equity ETF (SCHD), prioritizes above-average but sustainable dividends, and its top holdings include Texas Instruments (TXN), Chevron (CVX), and Cisco Systems (CSCO). The SCHD has assets under management of $70.0 billion, a dividend yield of 3.9%, and expenses of 0.06%.
However, most Wall Street economists expect America's rate environment to remain unchanged. The Federal Open Market Committee (FOMC) has signaled a slower pace of play for lowering interest rates in 2025.
Despite this, there is still growing optimism for a rate cut once the school year resumes, and some small-cap value bulls are optimistic that the strategy's fates will turn around. Small-cap companies tend to do much better following a rate cut, with small caps delivering a total return of 26.6% in the 12 months following a Fed rate cut vs 22.4% for mid caps and just 15.6% for large cap stocks.
In summary, tactical investors might consider ETFs with exposure to growth stocks (tech, small-caps) and dividend-paying equities to position for an eventual Fed rate cut later in 2025. However, it's important to remember that investing always carries risk, and past performance is not a guarantee of future results. Always do your own research and consult with a financial advisor before making investment decisions.
References:
[1] CME FedWatch: https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html [2] Schwab U.S. Dividend Equity ETF (SCHD): https://www.schwab.com/resource-center/insights/content/schwab-us-dividend-equity-etf [3] Vanguard Real Estate ETF (VNQ): https://investor.vanguard.com/etf/profile/vnq
- Some investors may find Defi (decentralized finance) protocols appealing, as they often offer high yields in a low-interest-rate environment, with many DeFi platforms promising returns above traditional finance (trading) methods.
- The stock-market scenario in 2025, with potential rate cuts, could prompt more interest in business sectors sensitive to economic shifts, such as cryptocurrency and blockchain, which could benefit from increased market liquidity (finance).
- As the trading of Exchange-Traded Funds (ETFs) continues to evolve, many analysts are keeping an eye on the burgeoning DeFi sector, which may offer investors unique opportunities outside the traditional finance world, such as the yields provided by MakerDAO's DAI stablecoin or the governance tokens of decentralized platforms like Uniswap and Compound.
