How do you protect yourself in a tough market?

Investors looking for safe havens have experienced seismic shifts as former investment favorites morph into money losers. At home, the previously hot energy and mining sectors have suffered huge corrections. Around the world, markets have staggered, with the Russian stock market declining so precipitously that it had to close for a couple of days last week. Even money market mutual funds, the safest investment after cash and short-term Treasury securities, had their bubble burst when the Reserve Primary Fund (RFIXX) broke the buck.

With the foundations of many investments teetering, investors can’t be blamed for seeking safety. Sectors that are traditionally identified as safe havens in uncertain times, such as health care and consumer staples, are worth looking at. Although the returns of these sectors have fared better than the overall market, there are clearly some significant differences between them.

Consumer staples
ETFs like the Consumer Staples Select Sector SPDR (XLP) and the Vanguard Consumer Staples ETF (VDC) hold stocks of companies within the consumer staples sector. The indexes the funds track include consumer products companies that fare well in difficult economic times, such as food and drug retailing, beverages, food products, tobacco, household products, and personal products.

The Vanguard and SPDR funds are the two largest consumer staples ETFs and have similar expense ratios between 0.2% and 0.25%. Furthermore, these funds hold similar portfolios of large-cap U.S. stocks, with Wal-Mart (NYSE:WMT), Procter & Gamble (NYSE:PG), Coca-Cola (NYSE:KO), and Anheuser-Busch (NYSE:BUD) among the top holdings for both. The funds are closely matched, although a recent comparison shows the SPDR fund with a slightly smaller loss of 1.2% so far this year.

Health care
Within the health-care sector, the PowerShares Dynamic Pharmaceuticals Portfolio (PJP) and the SPDR S&P Pharmaceutical ETF (XPH) both track indexes of pharmaceutical companies, such as Johnson & Johnson (NYSE:JNJ), Forest Labs (NYSE:FRX), and Abbott Labs (NYSE:ABT). Both have lost a bit less than 2% so far in 2008, although the SPDR fund's fees are slightly lower.

Fund facts

Fund

Return YTD 

Expense Ratio

Assets

Consumer Staples SPDR

(1.2%)

0.23%

$2.4 billion

Vanguard Consumer Staples ETF

(1.6%)

0.22%

$536 million

PowerShares Dynamic Pharmaceuticals

(1.6%)

0.63%

$150 million

SPDR S&P Pharmaceutical ETF

(1.8%)

0.35%

$19 million

Source: Morningstar.

Fund prospects and risks
The argument for these sectors is pretty straightforward. Even though consumers can cut back on some consumer goods, the products made by companies within the consumer staples sector include basic necessities that most people don't cut back on even during economic downturns. 

Similarly, the need for medical care doesn't go away when money is tight, and the industry makes products that are necessary for many consumers. Although some treatment and medications can be delayed, many are not optional. Demographics are often cited as creating a strong headwind for pharma, with baby boomers clearly at an age when they are heavy health-care consumers. The pharmaceutical industry is one of the most profitable businesses and is distinguished by high profit margins and patent protection, which can protect a company’s earnings for years. However, the industry is subject to a thicket of laws and regulations that can impede new drugs from coming on line and reduce earnings.

Portfolio fit?
With Wall Street giants falling like leaves in a drought and stock markets around the world turning in depressing performance numbers, there are solid reasons for seeking safe harbors. However, the sectors highlighted are no panacea for the fears roiling the markets. The funds which track these sectors are highly concentrated, so they should be sprinkled only lightly in most portfolios. The sectors do not all perform equally well, and it would be foolish for investors to blindly plunge into these areas without comparing available options.

Related articles:

Learn more about mutual funds and ETFs with the Fool's Champion Funds newsletter service. A free 30-day trial will start you on the road to investing success.

Fool contributor Zoe Van Schyndel now lives in the Seattle area, where she enjoys the coffee and natural wonders. She does not own any of the funds or securities mentioned in this article. Johnson & Johnson is a Motley Fool Income Investor selection. Wal-Mart and Coca-Cola are Motley Fool Inside Value recommendations. Try any of our Foolish newsletters today, free for 30 days. The Motley Fool has a disclosure policy.