Investing In Tough Times: 3 Recession-Resistant Funds

This week, Fed Chair Jerome Powell gave his semiannual testimony before the Senate Banking Committee. The biggest takeaway from his first day at the podium?

“The latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated.”

Powell said that inflation remains high and the labor market is strong and that, even though inflation has been moderating in recent months, it still has a long way to go before it reaches 2%.

These comments triggered a 1.5% selloff across the market on Tuesday, with every sector finishing lower.

On Wednesday, Powell repeated his message that the U.S. central bank is likely to take rates higher than previously anticipated, but went off-script to stress that policymakers had not yet made up their minds on the size of their interest-rate increase later this month.

“If — and I stress that no decision has been made on this — but if the totality of the data were to indicate that faster tightening is warranted, we’d be prepared to increase the pace of rate hikes.”

The market fared a little better Wednesday, with the three major indexes mixed for the day. But then things collapsed Thursday with everyone anxiously awaiting the next economic report that could tilt the Fed’s choice.

Investors have increased their bets that the central bank could raise interest rates by 50 basis points when it gathers later this month instead of continuing the quarter-point pace from the previous meeting. They also project that the Fed’s policy benchmark will peak at around 5.6% this year, up from 5.5% on Monday.

I think the most interesting takeaway from all of this is the potential for the Federal Reserve to go back up to a 50-bps hike after slowing to 25 basis points in the latest meeting.

Why did that catch my attention? Because the Fed hasn’t stutter-stepped at the end of a rate hiking cycle since 1990.

While the jump back to 50 points is by no way a done deal — as Powell took the time to stress — it does make me feel like maybe the Fed’s path to 2% isn’t quite as well planned as anyone originally assumed. The messaging is definitely less straightforward than it was last year.

That messaging has reignited the warning of a looming recession. So today, let’s take a look at stocks that tend to do well in that kind of market environment.

During a recession, stocks that tend to perform well are those in defensive sectors, such as healthcare, consumer staples, and utilities.

These sectors are considered defensive because they offer products and services that are in demand regardless of the state of the economy, like food, household products, and medicines. Since people will still need to buy these things even in a recession, these companies tend to be more stable than others.

Some funds I’m adding to my Magnifi watchlist include Health Care Select Sector SPDR Fund (XLV), Consumer Staples Select Sector SPDR Fund (XLP), and Vanguard Utilities Index Fund ETF (VPU).

All three of these funds outperformed the broader market indexes last year — a time when many investors believed there was a recession looming in our future. Each of the price charts below is for the full year 2022.

Health Care Select Sector SPDR Fund (XLV)

This is an exchange-traded fund that tracks the performance of companies in the healthcare sector of the S&P 500 index. The fund invests in a diversified portfolio of companies that provide products and services related to healthcare, including pharmaceuticals, biotechnology, medical devices, and health care providers.

The fund currently holds 65 stocks, with some of the largest holdings including Johnson & Johnson, Pfizer, UnitedHealth Group, and Merck. These companies are leaders in their respective fields and have a history of providing strong financial performance.

Healthcare is a necessity, regardless of the state of the economy, so companies in this sector are less susceptible to economic downturns than those in more cyclical sectors. As a result, XLV is often considered a good choice for investors seeking out a defensive investment that can provide stability during market turbulence.

XLV charges an expense ratio of 0.10%, which is relatively low compared to other healthcare funds ETFs.

Consumer Staples Select Sector SPDR Fund (XLP)

This exchange-traded fund tracks the performance of companies in the consumer staples sector of the S&P 500 index. The consumer staples sector includes companies that produce and sell everyday household items, such as food, beverages, tobacco, and personal care products.

XLP is one of the largest and most liquid ETFs in the consumer staples sector, with over $16 billion in assets under management. The fund seeks to provide investment results that, before expenses, correspond to the price and yield performance of the Consumer Staples Select Sector Index.

The fund holds 34 stocks in its portfolio, with the top holdings including well-known companies such as Procter & Gamble, Coca-Cola, and PepsiCo. These companies are often considered to be “defensive” stocks, as demand for their products tends to be relatively stable even during economic downturns.

This defensive nature of consumer staples companies is why XLP is often a popular investment choice for investors looking for stability and income during market downturns.

XLP charges an expense ratio of 0.10%, which is relatively low compared to other consumer staples ETFs. The fund also pays a dividend yield of around 2.5%, which can be attractive for income-seeking investors.

Vanguard Utilities Index Fund (VPU)

This is a mutual fund that seeks to track the performance of the MSCI US Investable Market Utilities Index. This index includes companies that provide essential services like electricity, gas, and water, as well as companies involved in infrastructure operations and communications.

These companies can do well during recessions because they tend to have steady cash flows and are less affected by economic ups and downs.

The fund aims to provide investors with exposure to the utilities sector, which is often considered a defensive sector because demand for utilities tends to be relatively stable regardless of the economic cycle. As a result, utilities stocks are often sought after by investors looking for stable returns and lower volatility during times of economic uncertainty or recession.

VPU is made up of approximately 73 holdings — including NextEra Energy, Dominion Energy, and American Electric Power Company — and has a low expense ratio of 0.10%, which means investors can benefit from broad exposure to the utilities sector while keeping costs low. The fund is primarily composed of large-cap companies, with the top 10 holdings accounting for approximately 56% of the fund’s assets.

It is important to remember that while these sectors are often considered to be defensive investments, they are not immune to market downturns. Economic factors, such as inflation, changes in the healthcare industry, changing consumer tastes, and changing energy prices can affect the performance of these companies. As with any investment, it is important for investors to carefully consider their investment objectives and risk tolerance before investing in any fund or ETF.

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