Risks: Higher borrowing costs, lower economic growth, higher tariff-induced prices, TCJA uncertainty
Three key factors are driving rising US market risk. First, monetary policy remains restrictive, with the Federal Reserve prioritizing price stability and managing inflation expectations despite signs of slowing economic growth. Second, geopolitical and economic tensions around trade policies are colliding with elevated large-cap equity valuations, contributing to market volatility. Third, there’s uncertainty around the extension of the 2017 Tax Cuts and Jobs Act (TCJA), which is set to expire at year-end.
While consumers have remained relatively resilient, the risk of higher borrowing costs, lower economic growth, higher tariff-induced prices, and a potential tax hike if the TCJA isn’t extended may prove too much for the economy.
Fortunately, there’s the potential for these risks to be resolved. The Fed may become satisfied enough with price stability to begin lowering interest rates. The US may reach more favorable terms with its major trading partners. And the Republican-led White House and Congress may preserve and extend a majority of the TCJA provisions.
Consider SPHQ and SPLV
With these seemingly bifurcated outcomes in mind, investors with different risk tolerances may want to target different factors along the risk spectrum. Two of the more defensive equity factors are quality and low volatility. SPHQ invests in the 100 securities in the S&P 500 Index with the highest quality scores, calculated based on return on equity, the accruals ratio, and the financial leverage ratio. SPLV invests in the 100 securities in the S&P 500 Index with the lowest realized volatility over the past 12 months. While both are generally considered defensive, they’ve historically offered different levels of downside mitigation and upside participation. For more risk-averse investors, SPLV’s historical 59% down capture and 69% up capture may be appealing. For investors more optimistic and seeking more upside potential, SPHQ’s historical 93% down capture and 95% up capture may be more attractive.
