The best defensive ETFs are ideal for investors seeking out safety amid an uncertain market backdrop.
Indeed, the Federal Reserve has started lowering interest rates from their highest level in decades. Inflation is nearing the central bank's 2% target, but rates still remain elevated, driving up costs for consumers and businesses. Plus, while plenty of indicators show most parts of the economy are healthy, continued weakness in the manufacturing sector has some worried about a possible recession on the horizon.
It's worth admitting that over the very long term, stocks always recover and move higher. So, one way to get through volatility on Wall Street is to simply refuse to look at stock quotes for a few weeks or months and hope things look better on the other side. But long-term investors worried about the outlook on Wall Street can also find relief in defensive ETFs, which help provide some cover in an uncertain market environment.
To come up with this list of the best ETFs with defensive qualities to buy, we looked at products that all offer different strategies but share a prioritization of stability over aggressive profit-making strategies.
In a sunny economic environment where start-ups are booming and everyone is spending freely, these kinds of investments often lag behind. But when the storm clouds roll in and everyone runs for cover, it's these defensive ETFs that really hold their own.
As Kiplinger contributor Mark Hake writes in his feature on the best defensive stocks, "It's often the case that these companies are boring. But they are profitable and can keep growing even when economic conditions are rough. In any event, they have a long history of generating good profit margins and cash flow during a variety of economic cycles."
Of course, there's no guarantee that all the forecasts of doom and gloom will prove warranted. As always, each individual should always do their own research and invest based on their personal investing goals and strategy. But if you're leaning toward this less risky approach to stocks and bonds, these defensive ETFs could be worth considering.
Data is as of October 21. Dividend yields are calculated by annualizing the most recent payout and dividing by the share price.
Vanguard Total Stock Market ETF
- Assets under management: $441 billion
- Dividend yield: 1.3%
- Expenses: 0.03%, or $3 annually for every $10,000 invested
When most investors pick an index fund, they tend to gravitate to the standard S&P 500 ETFs. But there's a great big world of stocks out there, and sometimes the smaller and lesser-known names on Wall Street can help provide a bit of outperformance or, in times of trouble, some stability.
The Vanguard Total Stock Market ETF (VTI, $285.54) holds a piece of nearly every publicly traded company listed on U.S. exchanges, with a lineup of nearly 4,000 names. The larger stocks still lead the portfolio, with Apple (AAPL) and Microsoft (MSFT) as top holdings. However, you'll also get mid-sized firms and small start-ups in the mix, too.
As for sector exposure, tech stocks are most prevalent at more than 30% of the portfolio. Financial services (13.3%) and healthcare (12.4%) come in at a distant second and third, respectively.
As the name implies, this is a play on the entirety of the stock market. So if all of Wall Street takes a tumble as a group, then there's not much you can do to protect yourself even with the best defensive ETFs out there. However, if you want to cast the widest possible net then VTI may be a good foundational holding in your portfolio.
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iShares MSCI USA Quality Factor ETF
- Assets under management: $50.6 billion
- Dividend yield: 0.99%
- Expenses: 0.15%
Another way to approach the best defensive ETFs is to find one with a focus on "fundamentals" — that is, the profit and sales performance of a stock as opposed to just how much its share price is moving. Theoretically, these key metrics are what result in the long-term appreciation of a stock's value rather than short-term measures of sentiment or the news cycle.
The iShares MSCI USA Quality Factor ETF (QUAL, $179.76) embraces the power of these numbers. The ETF is composed of a focused list of about 125 large and mid-sized U.S. stocks that exhibit stronger fundamentals than their peers, as well as a historical tendency to outperform the competition. Right now, top holdings include semiconductor stock Nvidia (NVDA) and tech giants Apple and Microsoft.
The stocks that make up this fund are chosen based on factors like their return on equity and earnings growth. With some still projecting a recession or mild economic slowdown that could hit at some point over the next year, a focus on quality is essential. So, if you're looking for the best defensive ETFs, it might be beneficial to overlay a screen for quality instead of just picking the standard vanilla index fund.
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Invesco S&P 500 Low Volatility ETF
- Assets under management: $7.7 billion
- Dividend yield: 1.9%
- Expenses: 0.25%
Swinging back around to standard S&P 500 funds, another interesting approach is the Invesco S&P 500 Low Volatility ETF (SPLV, $71.38). As the name implies, the fund is formulated in a way that prioritizes companies that are less volatile than their peers – ideal for investors seeking out the best defensive ETFs.
Specifically, SPLV handpicks the top 100 stocks in the S&P 500 based on a ranking of which names have been the least volatile over the prior 12 months. This vehicle is not a foolproof guarantee of future stability. However, it does allow for a more stable and defensive group of holdings based on market data.
For instance, the top three holdings in SPLV right now are telecom provider T-Mobile (TMUS), Berkshire Hathaway (BRK.B) and fintech company Fiserv (FI). All these are established blue chip stocks that are sure to withstand any short-term ups and downs in the market better than most other small and mid-cap stocks out there.
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Invesco S&P 500 Equal Weight ETF
- Assets under management: $65.8 billion
- Dividend yield: 1.5%
- Expenses: 0.20%
It's not uncommon for Big Tech to be the dominant force behind an ETF, given that many of the largest companies in the world are in this sector. In fact, the S&P 500 Index is almost 32% weighted toward information technology, and the Nasdaq-100 is even more reliant at more than 62%.
But for investors seeking out the best defensive ETFs, the Invesco S&P 500 Equal Weight ETF (RSP, $178.11) is worth a closer look because it looks to balance the broad-market scales.
The "equal weight" in the name means that this fund rebalances regularly to hold as close to equal values in every single S&P 500 component rather than placing a priority on the big guys. In other words, Apple should represent about 0.2% of the total assets unlike the roughly 6% it typically takes up in the standard funds that weight holdings by market value.
This is a much more diversified way to approach the stock market, as it's possible for a small number of big holdings to skew performance in an index. That could mean you leave some profits on the table if Big Tech soars, but you will avoid putting all your eggs in one basket and being disappointed when the sector stumbles.
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iShares Core Dividend Growth ETF
- Assets under management: $30.3 billion
- Dividend yield: 2.2%
- Expenses: 0.08%
If you're really after low-risk dividend stocks, then the iShares Core Dividend Growth ETF (DGRO, $62.51) fund is worth a closer look. DGRO offers a diversified portfolio of more than 400 stocks that include some of the most stable and established brands on the planet. More importantly, its focus on the best dividend stocks for dependable dividend growth means that these companies are likely to pay shareholders even more in the years ahead than they do today.
For instance, the top holding in DGRO right now is Exxon Mobil (XOM), which has raised its dividend for 41 straight years. That’s a tremendous track record of prioritizing shareholder value.
The current yield of 2.2% in this fund admittedly doesn't set the world on fire. Still, many high-yield stocks offer unsustainable dividends as they pay out more than they can afford.
"Indeed, an unusually high dividend yield can actually be a warning sign," writes Dan Burrows, senior investing writer at Kiplinger.com, in his feature on the best high-yield stocks in the S&P 500. "That's because stock prices and dividend yields move in opposite directions. It's possible that a too-good-to-be-true dividend yield is simply a side effect of a stock having lost a lot of value."
However, DGRO prioritizes the stability and growth potential of dividends. This creates more reliability in those payouts, as well as more stability in the underlying stocks themselves.
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Vanguard Value ETF
- Assets under management: $128.7 billion
- Dividend yield: 2.3%
- Expenses: 0.04%
While screening for strong fundamentals might result in higher-quality stocks, it's also worth noting that a company that isn't growing particularly fast can sometimes be the safer bet. Think of "value" oriented stocks like big telecom or publicly traded utilities. It's unlikely that these giants will double their revenue or customer base in the next few years, but it's also unlikely they’ll be significantly disrupted by competition, either.
The Vanguard Value ETF (VTV, $173.63) is a direct play on slow-and-steady stocks like these that illustrate inherent value in their operations even if the growth outlook isn't dramatic. Financial services (21.8%) and healthcare (18.1%) lead the fund's sector portfolio. Top holdings among the 350 or so stocks in VTV include semiconductor giant Broadcom (AVGO) and Warren Buffett's Berkshire Hathaway.
As Kiplinger contributor Kyle Woodley writes in his feature on the best value stocks, "the benefit of a discount isn't dollars in your pocket now – it's dollars in your pocket later, once the market realizes the stock's true value and drives the price higher."
As a result, VTV offers one of the highest dividend yields of any defensive ETFs we've seen so far.
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Vanguard Utilities ETF
- Assets under management: $6.7 billion
- Dividend yield: 2.9%
- Expenses: 0.10%
Generally speaking, it's risky to go "all-in" on a single flavor of stock. But in the case of the Vanguard Utilities ETF (VPU, $172.95), taking a focused bet on one sector may ultimately reduce your risk profile rather than raise it.
Sure, utility stocks tend to look very similar to each other and, as a result, are subject to the same big-picture trends. But let's be honest for a second and admit that many of these companies are virtual monopolies. For-profit utility companies are highly regulated and commonly need to ask for approval before they change their rate structure. They are also geographically landlocked, so they don't compete with each other and have billions in assets that make it all but impossible for a new upstart to enter their territory.
All this means the utility sector is much lower risk than other parts of Wall Street. Indeed, utilities are more stable than companies in other sectors and have reliable revenue streams that often support generous and sustainable dividends over the long term.
Proof of that comes via a VPU yield roughly double that of the S&P 500. This income offers added potential to returns, as well as a modest hedge against declines if times get tough.
While VPU may only hold about 65 total companies, they are all dominant players in energy distribution. This makes it worthy of consideration from investors looking for the best defensive ETFs.
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iShares 1-3 Year Treasury Bond ETF
- Assets under management: $22.3 billion
- SEC yield: 3.8%*
- Expenses: 0.15%
If you really want to be low-risk in your pursuit of income-generating assets, then the iShares 1-3 Year Treasury Bond ETF (SHY, $82.42) is a solid investment choice. If you parse the individual parts of its name, this is a fund that's backed by U.S. government bonds with a duration of fewer than three years.
In other words, this is a bet that the Treasury Department is going to make good on its borrowing over the next 12 to 36 months. So, aside from an alien invasion or massive "black swan" event that ruins the very fabric of America, SHY is going to deliver.
What's interesting about the current moment in time, too, is that rising interest rates have actually resulted in a pretty decent yield from this defensive ETF. Typically, the lower the risk of a fixed-income investment, the lower the payoff. But despite the rock-solid certainty you get with short-term investments in U.S. government debt, you also get a +4% yield.
If you're interested in capital preservation, that makes this one of the best defensive ETFs at the moment to achieve your investing goal.
* SEC yield reflects the interest earned for the most recent 30-day period after deducting fund expenses. SEC yield is a standard measure for bond funds.
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Vanguard Short-Term Corporate Bond ETF
- Assets under management: $35.8 billion
- SEC yield: 4.5%
- Expenses: 0.04%
If you don't mind taking on a bit more risk in pursuit of larger yield, then the Vanguard Short-Term Corporate Bond ETF (VCSH, $78.54) is another one of the best defensive ETFs tied to the bond market that's worth a closer look. It, too, is focused on short duration bonds. However, the difference when compared with the prior fund is that it’s composed of corporate loans instead of government ones.
There is absolutely less certainty in businesses than there is in the government. That said, the average holding in VCSH matures in just 2.9 years, which isn't too long a time for disruptive technologies or economic crises to emerge out of nowhere. Furthermore, VCSH is focused solely on "investment grade" debt to established companies, such as aerospace giant Boeing (BA) or financial icon Bank of America (BAC). You won't find any "junk" bonds here, just loans to high-quality corporations with strong outlooks.
You can never say never, but it's incredibly likely that the short-term nature of these loans and the high credit quality of borrowers will add up to consistent performance in any market environment. VCSH isn't quite as locked-up as a bet on the stability of the U.S. government, but it's pretty darn close.
Learn more about VCSH at the Vanguard provider site.
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