S&P 500 ETF exposure to the US economy

GDP revisions and pending economic policy

The U.S. economy is expected to grow by 1.5% in 2011 and 1.8% in 2012 according to the most recent International Monetary Fund World Economic Outlook. These growth rates were reduced 0.6% and 0.7% respectively from estimates in June. From a government policy-maker perspective the two key policies under consideration are:

– The American Jobs Act – a US$447 billion Bill that includes four core objectives that are “fully paid for as part of the President’s Long-Term Deficit Reduction Plan. The objectives are “tax cuts to Help America’s Small Businesses Hire and Grow; putting workers back on the job while rebuilding and modernising America; pathways back to work for Americans looking for jobs; and tax relief for every American worker and family.
– The Currency Exchange Rate Oversight Reform Act that was introduced to the U.S. Senate on 22 September 2011. The Act directs the Secretary of the Treasury to report to U.S. Congress on “fundamentally misaligned currencies” of major trading partners and prescribes procedures for remedial action.

The Federal Reserve, in the meantime has provided some granularity to its September 21 statement with the release of its minutes this week.

Minutes of the Federal Open Market Committee (September 20–21, 2011)

Over the course of a year the Federal Open Market Committee (FOMC) holds eight regularly scheduled meetings and ancillary meetings as required. The minutes of regularly scheduled meetings are released three weeks after the scheduled meeting. On Wednesday night the minutes of the September 20-21 meeting were released. The minutes noted the following views on current conditions:

– The “temporary factors” that had contributed to slower growth in 1H11 “had partly reversed, contributing to some rebound in final sales and production, particularly in the manufacturing sector where progress had been made in resolving supply chain disruptions”.
– Recent “stresses in global financial markets, sluggish growth in households’ real incomes, and heightened uncertainty about economic prospects seemed to have contributed to lower consumer and business sentiment and to be weighing on economic growth”.
– Further to business sentiment, business contacts at communications, technology, and transportation firms indicated that growth had slowed in those sectors while business contacts in “commodity-related sectors such as energy, agriculture, and mining continued to show strong gains”; meanwhile “tourism also appeared to be doing well” Surveys have also indicated that “growth in the manufacturing sector had weakened during the summer” yet “exports remained a bright spot for U.S. manufacturers and commodity producers. Business investment in equipment and software had continued to expand in recent months, but some contacts expressed concern that firms would cut capital spending if their sales slowed further.”
– While the Federal Reserve does not anticipate “a downturn in economic activity”, several participants have remarked that with slow growth, “the recovery was more vulnerable to adverse shocks”. Risks are threefold and include “the possibility of more pronounced or more protracted deleveraging by households, the chance of a larger than-expected near-term fiscal tightening, and potential spillovers to the United States if the financial situation in Europe were to worsen appreciably”.

The full minutes can be read here. The Federal Reserve currently maintains a target range for the federal funds rate at 0 to ¼ percent. An additional expansionary policies announced at the conclusion of the meeting back in September has become known as operation “twist”. Operation twist essentially involves a flattening of the US Treasury yield curve. Yields move inversely to prices. So by the end of June 2012, the federal Reserve will buy U.S, treasury securities with “remaining maturities of approximately 6 years to 30 years with a total face value of $400 billion”, and sell U.S. treasury securities with “remaining maturities of 3 years or less with a total face value of $400 billion”. The next meeting for the FOMC is scheduled on November 1-2.

The S&P 500 Index

The S&P 500 Index is a capitalisation weighted index of 500 stocks that provides a broad measure of the U.S. economy. The chart below illustrates the broad sector coverage of the Index in terms of weightings. The top three sectors are technology accounts (17.7%), financials account (14.4%) and consumer services (12.3%).

The iShares S&P 500 Index Fund seeks investment results that correspond generally to the price and yield performance of U.S. large-cap stocks, as represented by the Standard & Poor’s 500 Index. The top five holdings of the Index the ETF as of 11 October are Exxon Mobil Corp, Apple Inc, International Business Machines Corp, Microsoft Corp and Chevron Corp.

The db x-trackers S&P 500 Inverse Daily ETF is a new generation swap based ETF that is INVERSELY linked to the performance of the S&P 500 Total Return index. This ETF is provided for investors with a bearish view of the S&P 500 Total Return Index.

In terms of calculation, db x-trackers note “the Index replicates the performance of an investment with a short position on the S&P 500 TR Index that is rebalanced daily. On a daily basis, the performance of the Index is the negative performance of the S&P 500 TR Index that is rebalanced daily, plus a prorated portion of interest based on double the Overnight USD Libor rate”. The performance of the Index will therefore not be equal to the simple proportionate inverse percentage change of the S&P 500.

The price and value of all ETFs may go down as well as up and past performance does not guarantee of future returns.

SGX SIPs have structures, features and risks that may be more complex in nature. From Jan 2012, the MAS will require broking firms to ascertain whether an individual investor has the relevant knowledge and experience to understand the risks and features of SIPs before allowing the individual to open an account to trade SIPs listed on both securities and derivatives markets.

SGX has introduced two online initiatives, a Customer Account Review Module and an Online Education programme, to support individual investors in their understanding and trading of SIPs listed on SGX. Click here to access these initiatives.

• While the Federal Reserve does not anticipate “a downturn in economic activity”, several participants have remarked that with slow growth, “the recovery was more vulnerable to adverse shocks”.
• The most recent FOMC minutes suggested risks are threefold and include “the possibility of more pronounced or more protracted deleveraging by households, the chance of a larger than-expected near-term fiscal tightening, and potential spillovers to the United States if the financial situation in Europe were to worsen appreciably”.
• The SGX provides investors access to two S&P 500 ETF products, that allow investors to invest in either inclines or declines of the Index during Asian hours.