As a retiree, you'd be wise to consider the impact that rising interest rates can have on your investments. After years of historically low rates, the Federal Reserve has recently begun increasing the Federal Funds target rate, and more raises are expected. Thus, the prices of dividend-paying stocks and existing bonds may fall as new, higher-yielding bonds and other fixed-income investments become relatively more attractive. This can be a problem for many retirees since dividend stocks and bond funds often comprise a substantial portion of their portfolios.
Fortunately, there are two exchange-traded funds (ETFs) that promise to help you protect and grow your wealth during periods of rising interest rates. Read on to learn more about them.
For stock investors
The ProShares Equities for Rising Rates ETF (NASDAQ:EQRR) is the first U.S. equity ETF specifically designed to outperform the overall market in a rising interest rate environment. The fund chooses among the 500 largest U.S. stocks by targeting sectors that have the highest recent correlations to 10-year U.S. Treasury yields. It then identifies the stocks within these sectors that have the strongest tendency to outperform when rates rise. In all, the ETF selects the top five sectors in terms of interest rate sensitivity, and 10 stocks each within these sectors, for a total of 50 large-cap U.S. stocks.
Moreover, the ETF gives the sectors with the highest correlation to rising rates the heaviest weighting in its portfolio. For example, each stock in the highest-correlated sector receives a 3% allocation, while each stock in the least-correlated sector receives a 1% allocation. It then repeats this selection and weighting process quarterly, so as to regularly update its holdings based on recent interest rate correlations.
Additionally, the fund's expense ratio is reasonable at 0.35% annually, which translates to $35 per $10,000 invested per year. As such, the ProShares Equities for Rising Rates ETF offers retirees a relatively low-cost way to potentially outperform traditional U.S. large-cap stock indexes if interest rates continue to rise in the coming years.
For bond investors
Rising rates can also take a toll on bond funds, as the prices of existing bonds must adjust lower in order to compete with newer, higher-yielding bonds. The ProShares Investment Grade-Interest Rate Hedged ETF (NYSEMKT:IGHG) seeks to mitigate this problem by hedging its bond portfolio.
The ETF's core bond portfolio is comprised of about 300 dollar-denominated investment-grade corporate bonds with at least 5.5 years until maturity, from both U.S. and foreign businesses. To further ensure diversification, the fund limits its allocation to not more than 3% for any single company.
What makes this ETF unique, however, is its interest rate hedges. By shorting U.S. Treasury futures, the fund is able to target a duration -- a measure of price sensitivity to changes in interest rates -- of zero, thereby eliminating interest rate risk. In this way, the ETF offers retirees the yield potential of long-term investment-grade bonds without the price volatility brought about by rising rates, all for a moderate annual fee of 0.30%.
And, when combined with the ProShares Equities for Rising Rates ETF, these two funds can help retirees craft a balanced investment portfolio that should perform well if rates rise in the years ahead.