Trending on ETF Database: Back to Normal as Brexit Shock Fades Out

There was no central theme this week, but readers were attracted by news-making headlines. Japan is again in the spotlight; although, this time not because of its safe-haven appeal but due to signals from the country’s top brass of fresh fiscal stimulus. Italian banks’ woes have also been on investors’ minds together with Inverse bonds, which are present in our list for the second consecutive week. In addition, ETFs tracking mortgage-backed securities are third from the top, while aerospace defense stocks are last.

Japan’s authorities have finally delivered a piece of good news that boosted stocks and dragged down a threateningly strong yen. The announcement of possible new fiscal stimulus attracted 137% more visitors to Japan equities compared to last week, as investors have cheered the news by bidding stocks up. For example, the iShares MSCI Japan ETF (EWJ A) has jumped 3.80% in the last 5 days, trimming year-to-date losses to 1.80%.

Following a landslide victory in elections last weekend, Prime Minister Shinzo Abe promised a new round of fiscal stimulus aimed at jumpstarting demand in a flailing economy. The measures are primarily part of what Abe has called the second arrow of his plan to end a twenty-year stagnation, and consist of investments in infrastructure, agriculture and tourism. The first arrow is about monetary stimulus measures, which have been deployed consistently throughout the past years, and the third arrow comprises structural reforms to liberalize the labor market and counteract the effects of an aging population. Here, Japan has been less effective, and perhaps that could be the main reason why the so-called Abenomics has largely failed to bring the promised economic growth and inflation back to normal levels.

For now, however, markets are animated by the news. The Bank of Japan is also expected to inject fresh stimulus as soon as this month, possibly bringing the yen further down and underpinning the country’s equity markets.

Inverse bonds ETFs, meaning funds gaining from rising yields, have seen their traffic increase 82% this week compared to the week-ago period, as many of them have grown over the past five days. For example, the iPath US Treasury 10-year Bear ETN (DTYS B+) has risen 11% in the last 5 days and jumped another 5% this morning, benefitting from relative calmness in the markets following the Brexit storm, which had pushed yields further down across the board. Year-to-date, however, the fund’s performance and that of many similar others, remains deeply in negative territory. The iPath US Treasury 10-year Bear ETN is down 43.5% and has yet to recover from the Brexit debacle.

The recent good performance of short bond ETFs is unlikely to last though. The Bank of England has suggested new stimulus may come in August, despite choosing to keep interest rates flat at its Thursday meeting, while the Bank of Japan is planning to ease monetary policy further. On top of that, the Federal Reserve indicated it will keep interest rates low – although a bumper jobs report announced last Friday should give it a reason to think again. A showing of 287,000 jobs last month propelled the stock markets to new highs. But unless the Fed indicates it is ready to take further action, the performance of Inverse bonds ETFs is expected to be neutral.

Mortgage-Backed Securities ETFs have attracted 81% more visitors this week compared to last, despite posting flat performance over the past five days. For example, the iShares MBS ETF (MBB A) has risen just 0.14%, and is up about 2% since the beginning of the year.

Mortgage-backed securities have enjoyed good performance during the years when the Federal Reserve was expanding its balance sheet by acquiring these type of assets. Now they are still enjoying some degree of accommodation from the Fed, but have not performed nearly as well as Treasury bonds, despite low interest rates. A very good jobs report for last month could prod policymakers to hike interest rates sooner than previously thought, putting pressure on MBS’ performance.

Perhaps the looming crisis in the Italian banking system could have been delayed if not for the Brexit referendum, which probably speeded up the resurfacing of an inevitable issue. Italian equities have seen their viewership rise as much as 72% this week compared to the same period last week. Over the past five days, Italy’s equities have jumped along with many markets in the developed world. For instance, iShares MSCI Italy (EWI B+) has gained 6.8%. However, that performance is deceiving: iShares MSCI Italy is still down 8.4% since the Brexit vote, largely because of declining banking stocks, and a staggering 20.3% decline since the beginning of the year.

Italian banks badly need an injection of at least $200 billion in capital to increase provisions for a slew of souring loans. It is estimated that the banking system has about $400 billion of non-performing loans, but their collective provisions cover just 45% of that amount. Their woes, if not fixed, will drag the economy down and threaten the integrity of the European Union amid an already uncertain political environment. The biggest problem is the source of capital: the government will have a hard time convincing voters to bailout the banking system, and the EU rules do not allow taxpayers’ money to be spent on such activities if bondholders do not take a hit first. But banking bonds are largely held by retail investors, who do not have the flexibility of large institutional investors and are unwilling to take losses on their investment.

Aerospace Defense ETFs is a rare presence in our weekly list. Top three defense ETFs present in our database have seen their viewership rise as much as 61% this week compared to last due to their relative strength in the aftermath of the Brexit vote. The main ETF, iShares U.S. Aerospace & Defense (ITA B+), has risen 2.7% in the past five days, extending year-to-date gains to about 7.8%.

The upbeat sentiment, however, is not fully shared by the sector’s giants. Many have warned that Brexit may pose long-term risks to the industry, and companies are now changing their investment plans. Still, geopolitical uncertainty could prove a boon for these stocks going forward, particularly emerging threats in the Middle East and Russia’s conflict in Ukraine. On July 8, NATO countries reiterated their commitment to increase military spending in the face of these menaces. All NATO countries now plan to spend an additional $8 billion by 2016, in a bid by many allies to move closer toward spending 2% of their GDP.

This week Japan has attracted visitors largely because the government signaled that new stimulus measures are coming, while Italy has hit the headlines with its flailing banking system. Inverse bonds have staged a recovery this week, after falling dramatically following the Brexit referendum, and aerospace stocks performed relatively well lately, despite company executives warning of uncertainty following Britain’s exit from the EU. Finally, mortgage-backed securities may stay flat for a while as the Federal Reserve delays a rate hike.

By analyzing how you, our valued readers, search our property each week, we hope to uncover important trends that will help you understand how the market is behaving so you can fine-tune your investment strategy. At the end of the week, we’ll share these trends, giving you better insight into the relevant market events that will allow you to make more valuable decisions for your portfolio.