Peeking In On The Newest SPDRs

For more than 17 years, exchange-traded funds investors and traders alike knew just nine sector SPDRs, but that changed in October with the debuts of Financial Services Select Sector SPDR Fund (The)(NYSE:XLFS) and Real Estate Select Sector SPDR Fund (The) (NYSE:XLRE).

The New SPDRs

State Street Corp (SPDR Barclays Short Term Treasury ETF (NYSE:STT))'s State Street Global Advisors unit introduced the new ETFs ahead of real estate becoming the eleventh Global Industry Classification Standard (GICS) sector. That change is scheduled to occur after markets close on August 31, 2016.

In November 2014, S&P Dow Jones Indices and MSCI, two of the largest providers of indices for use with ETFs, announced real estate previously included as part of the financial services group would become its own sector.

Real estate becoming its own sector may be the impetus behind the launches of XLFS and XLRE, but the timing of these debuts is interesting because of the perceived benefits higher interest rates have on banks. Conversely, real estate stocks, including those held by XLRE, are seen as vulnerable to rising interest rates.

Broadly speaking Financial Services firms often prosper with the steeper yield curve that usually accompanies higher interest rates, while Real Estate firms and REITs in particular are viewed as income investments that have to compete with bonds. This may not be the case in every cycle, but this alone seems like a good reason to us why investors might want to fine-tune their exposure, said AltaVista Research in a recent note.

Correlating To Treasury Yields

Obviously, XLFS and XLRE are new ETFs, so their correlations to Treasury yields are not yet known. However, AltaVista examined the three-year correlations of the iShares Dow Jones US Financial Svc.ETF (NYSE:IYG) and the Vanguard REIT Index Fund (NYSE:VNQ) to 10-year Treasury yields. The research firm notes IYG's correlation to those Treasury yields was 52 percent, while VNQ's was -65 percent.

Looking Closer At XLFS And XLRE

Another way of looking at XLFS is that the new ETF is XLF without real estate stocks, an important feature when considering real estate equities are vulnerable to rising interest rates and currently richly valued relative to the broader market. Wells Fargo & Co. (NYSE:WFC), Berkshire Hathaway Inc. (NYSE:BRK-B) and JPMorgan Chase & Co. (NYSE:JPM) combine for nearly 30 percent of XLFS' weight.

In good news for XLFS, return on equity (ROE) for bank stocks is improving.

With a modest ROE of 8.9 percent on average, and an even more modest forward price-to-book value multiple of just 1.1x, XLFS enjoys an ALTAR Score our measure of an ETFs overall investment merit of 7.6 percent. That is the second highest of any Sector SPDR2, and significantly higher than the 6.6 percent score for the broad S&P 500, said AltaVista.

XLFS and XLRE, which have about $14 million in combined assets under management, charge 0.14 percent per year, or $14 for each $10,000 invested.

Image Credit: Public Domain