VDC: 3 Big Reasons To Go Defensive With This ETF

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Vanguard Consumer Staples ETF is a buy due to attractive valuation indicators and historically lower reductions in market downturns.VDC offers high diversification and a reasonable expense ratio ...

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These factors include high valuation indicators for the market overall including the “Buffett Indicator” and the overall price-to-earnings ratio of the S&P 500 Index. Additionally, while consumer staple funds, such as VDC, are not impervious to share price decline, they have historically seen lower reductions in steep corrections and bear markets. Finally, VDC offers high diversification and a reasonable expense ratio compared to peer consumer staples funds. Fund Overview and Compared ETFs VDC is a passively managed ETF that seeks to track the consumer staples sector. This means that the fund includes companies with direct-to-consumer products, that based on spending habits, are considered to be nondiscretionary. The fund includes predominantly holdings that are in the merchandise retail (23.8%), household products (18.8%), and soft drinks and non-alcoholic beverages (18.4%) industries. With its inception in 2004, the fund has 103 holdings and $7.79B in AUM. For comparison purposes, other funds examined are the Fidelity MSCI Consumer Staples Index ETF (FSTA), the Invesco S&P 500 Equal Weight Consumer Staples ETF (RSPS), and the Consumer Staples Select Sector SPDR Fund (XLP). FSTA is the most similar to VDC in terms of its tracked index and diversification. XLP also has similar characteristics to VDC but is much less diversified. Finally, while RSPS also tracks the consumer staples sector, it is distinctly different to the other three examined funds in that it is an equal-weighted ETF. Performance, Expense Ratio, and Dividend Yield VDC has seen an average 10-year return of 8.56%. By comparison, FSTA’s 10-year average return is 9.01%, XLP’s 10-year average annual return is 8.34%, and RSPS’s 10-year average annual return is 8.21%. All funds have significantly underperformed the S&P 500 Index over the past decade. However, a key upside is that these funds have seen reduced declines in the event of market downturns as I will discuss later.   10-Year Total Price Return: VDC and Compared Consumer Staples Funds (Seeking Alpha) Vanguard’s sector-specific funds typically have expense ratios of 0.10%. This is the case for VDC which has average fees compared to peer funds. All examined consumer staples ETFs have dividend yields at roughly 2.5% which have been growing over the past five years. Expense Ratio, AUM, and Dividend Yield Comparison    VDC FSTA RSPS XLP   Expense Ratio 0.10% 0.08% 0.40% 0.09%   AUM $7.79B $1.10B $428.41M $15.16B   Dividend Yield TTM 2.49% 2.53% 2.75% 2.74%   Dividend Growth 5 YR CAGR 5.62% 5.83% 7.40% 6.34%   Click to enlarge Source: Seeking Alpha, 9 May 24 VDC Holdings and Reasons to Be Defensive VDC maintains similar holdings to FSTA and XLP with Procter & Gamble (PG) and Costco (COST) as top-weighted companies. Despite VDC’s high diversification, it maintains a hefty 62.65% weight on its top 10 holdings. RSPS keeps a significantly different holdings mix due to its equal weighted strategy and lower diversification. Top 10 Holdings for VDC and Compared Consumer Staples Funds   VDC – 103 holdings FSTA – 107 holdings RSPS – 39 holdings XLP – 38 holdings   PG – 12.00% PG – 12.02% KDP – 3.05% PG – 14.74%   COST – 10.03% COST – 9.99% BG – 2.93% COST – 12.86%   WMT – 7.95% WMT – 8.00% K – 2.93% WMT – 9.76%   KO – 7.43% KO – 7.57% MKC – 2.92% KO – 9.28%   PEP – 7.02% PEP – 7.11% ADM – 2.90% PEP – 4.78%   PM – 4.39% PM – 4.60% KMB – 2.86% PM – 4.66%   MDLZ – 3.46% MDLZ – 3.57% TSN – 2.86% MDLZ – 4.08%   TGT – 2.92% MO – 2.87% PEP – 2.86% MO – 3.36%   MO – 2.84% TGT – 2.70% CAG – 2.84% CL – 3.31%   CL – 2.61% CL – 2.64% CPB – 2.81% TGT – 3.17%   Click to enlarge Source: Multiple, compiled by author on 9 May 24 Looking forward, I believe VDC is primed as a strong defensive choice for multiple reasons. These include indications that the overall market is currently unattractively valued as measured by the total market value compared to U.S. gross domestic product, or GDP, as well as the S&P 500’s P/E ratio. Furthermore, VDC has a history of lower volatility and correlation to the market, serving the ETF well during corrections and bear markets. Reason #1: The “Buffett Indicator” Is Flashing Red The first warning signal driving me to be defensive is Warren Buffett’s indicator for total market valuation, dubbed the “Buffett Indicator”. This is the ratio of the value for the total U.S. stock market divided by U.S. GDP. Buffett has claimed that when this ratio at or near 200%, the market is very overvalued. As of March 31, 2024, the total U.S. stock market value is at $55.84T while the annualized GDP is $28.06T. This brings the indicator to 199%. Previous instances where the Buffett Indicator was at this level or higher was in 1968, March 2000, and August 2021. Following these points, the S&P 500 declined 30%, 35%, and 22%, respectively from peak to trough. The Buffett Indicator: 1950-Present (currentmarketvaluation.com) I am a firm believer that actions speak louder than words. Interestingly, the “Oracle of Omaha” has taken action that matches with the implied messaging of his indicator. Recently, he sold off nearly 13% in Berkshire Hathaway’s Apple (AAPL) stake and all of Paramount (PARA) stock. These actions brought the company’s cash pile to a record $189B. Interestingly, the other years where we see peaks in Berkshire Hathaway’s cash on hand is 1999, 2007, and 2021. These time periods correlate with an implied overvaluation from the “Buffett Indicator” and are a precursor to market declines. Reason #2: High Overall P/E Ratio The second warning sign that is alarming to me is the overall price-to-earnings ratio of the S&P 500 Index. The P/E ratio of the S&P 500 overall currently stands at 27.10. Comparatively, the historic mean between over the past century has been roughly 16.0. Therefore, the current market P/E ratio is approximately 50% higher than its long-term average. Historic S&P 500 Index P/E Ratio (www.multpl.com) Times when the index’s P/E ratio spiked was 46.17 in 2001, 35.96 in 2020, and over 100 in 2009. Whether or not we are in a period of “irrational exuberance” is debatable. However, an above average P/E ratio for the market combined with a high market cap compared to GDP ratio (the Buffett Indicator) at least gives me pause for consideration. Reason #3: VDC Performance During Bear Markets While none of the above indicators are a perfect predictor of the market, they should at least serve as signs to be cautious. Looking at VDC specifically, the fund provided investors with less volatility during downturns. In 2008, the S&P 500 Index saw a -38.4% decline. By comparison, VDC saw a more benign 31% drop in price. In 2022, VDC performed even more admirable. While the S&P 500 saw a 19.4% decline in 2022, VDC saw a much more stable 2.7% decline in share price. However, this stability works against investors in bull markets just as easily. In 2023, when the market saw a rebound, the S&P 500 returned 24%. In the same year, VDC’s performance was relatively flat. This difference in VDC’s volatility can be quantified by its standard deviation and beta value. While the S&P 500 has a standard deviation of 18.42 over the past 5 years, VDC holds a 5-year standard deviation value of 15.38. This indicates much less volatility as seen historically. Additionally, VDC has a 5-year beta value of just 0.62, implying a relatively low correlation to the market overall. This combination of lower volatility and reduced correlation to the rest of the market can serve as a great portfolio addition for investors seeking lower risk or greater diversification from typical S&P 500 Index funds, for example. Current Valuation  VDC has been the best performing consumer staples fund examined over the past year. Equal weighted RSPS has performed the worst with a -7% decline. All examined consumer staples funds underperformed the S&P 500 Index which has seen a one-year performance of 26.02%. However, this has resulted in the consumer staples sector being comparatively attractive from a value standpoint. One-Year Performance for VDC and Compared Consumer Staples ETFs (Seeking Alpha) As measured by P/E and P/B ratios, VDC’s valuation is roughly on par with peers. This is unsurprising given its comparative holdings mix. However, all funds are lower than S&P 500 P/E ratio overall of 27.10. As discussed previously, the S&P 500 is currently significantly higher than its historic mean. Valuation Metrics for VDC and Peer Competitors    VDC FSTA RSPS XLP   P/E ratio 22.80 25.55 18.10 23.64   P/B ratio 4.70 3.78 3.61 5.30   Click to enlarge Source: Compiled by Author from Multiple Sources, 9 May 24 Risks to Investors VDC presents positive and negative points from a risk standpoint. The positive side is that VDC’s reduced standard deviation and beta value can serve investors well in bear markets and times of high volatility. However, the downside is the opportunity cost for long-term investors. While VDC has seen a total price return of 79.4% over the past 10 years, the S&P 500 has returned roughly 175%. Even though VDC has historically offered a dividend yield greater than the market overall, return on investment for VDC including dividend reinvestment still significantly lags the market. Although there may be several indicators of market overvaluation, perfect timing of the market is incredibly difficult. Continuous investment in “defensive” sectors like consumer staples will likely result in sub-optimal performance over the long term. While seeking sanctuary from the market may be effective over the short term, I still favor dollar cost averaging into broadly diversified, low-cost funds over the long term. I just might add a bit more weight for low-volatility funds like VDC when these indicators are flashing red. Concluding Summary  While predicting the next movement of the market is nearly impossible, there are multiple indicators that point towards broad overvaluation including the “Buffett Indicator” and the market’s overall P/E ratio. Due to its diversification of the consumer staples sector, VDC may offer a defensive stance as it has both lower volatility and a relatively low correlation to the market, as measured by the S&P 500 Index. However, investment in a fund like VDC, as opposed to an S&P 500 or total market fund will almost certainly result in sub-optimal performance for long-term buy-and-hold investors. Therefore, while it is a limited buy for me in the short term, it will likely never constitute a significant portion of my portfolio. For those a fan of Fidelity or Invesco, FSTA and RSPS are comparable alternatives as well","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.1","shortVersion":"4.29.1","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2434827256"}