The Federal Reserve, in its meeting, slashed interest rates for the second time this year. It cut key interest rates by 25 bps, bringing down the benchmark rate to 4.5%-4.75%, following the 50-bps cut in September 2024. This reflects the Fed's renewed focus on supporting the job market and fighting inflation.
The Fed said that recent indicators suggest that “economic activity has continued to expand at a solid pace,” and the "unemployment rate has moved up but remains low." Inflation has fallen closer to the central bank's target but "remains somewhat elevated."
The probability of a quarter-point December rate cut rose to more than 70% following the meeting, while the chances of a pause slipped to nearly 29%, according to the CME FedWatch Tool. Before the Fed rate cut decision, the market was pricing in a 67% chance of another quarter-point cut in December and a 33% chance of a pause.
Low Rates: A Boon
Lower interest rates generally lead to reduced borrowing costs, which help businesses expand their operations easily, resulting in increased profitability. This, in turn, stimulates economic growth and provides a boost to the stock market.
In particular, high dividend-yield sectors, such as utilities and real estate, will be the biggest beneficiaries of the rate cuts, given their sensitivity to interest rates. This is especially true as these offer higher returns due to their outsized yields. In real estate, lower rates can boost housing market activities by making mortgages more affordable. Securities in capital-intensive sectors like telecom will also benefit from lower rates. Businesses will face lower loan rates over time.
Lower rates will have a positive impact on consumer discretionary and financial services. Reduced borrowing costs will lead to increased consumer spending for consumer discretionary sectors. In the financial sector, while lower rates can compress net interest margins for banks, they can also encourage lending and lead to increased consumer and business loan activity.
Small-caps are set to outperform in a lower-rate environment as these companies have higher levels of debt. Fed rate cuts tend to boost foreign capital inflows into emerging markets like India. As the outlook for India’s economy remains strong, rate cuts will boost foreign capital inflow, which can lead the market to new highs. Gold will also continue to shine as lower interest rates will increase the metal’s attractiveness (read: Small-Cap ETFs Set to Explode Under Trump Presidency).
Given this, we have highlighted ETFs from sectors that are set to explode following a rate cut.
ETFs to Gain
Vanguard Real Estate ETF (VNQ)
Vanguard Real Estate ETF targets the real estate segment of the broader U.S. market. It follows the MSCI US Investable Market Real Estate 25/50 Index and holds 154 stocks in its basket, with none accounting for more than 13.5% share. VNQ has key holdings in retail REITs, telecom tower REITs and industrial REITs with double-digit exposure each (read: 5 ETF Strategies to Follow in Q4).
Vanguard Real Estate ETF is the most popular and liquid ETF, with an AUM of $37.2 billion and an average daily volume of 3.6 million shares a day. It charges 13 bps in fees per year from investors and has a Zacks ETF Rank #3 (Hold) with a Medium risk outlook.
iShares U.S. Home Construction ETF (ITB)
iShares U.S. Home Construction ETF provides exposure to U.S. companies that manufacture residential homes by tracking the Dow Jones U.S. Select Home Construction Index.
With an AUM of $3.4 billion, iShares U.S. Home Construction ETF holds a basket of 44 stocks, with a heavy concentration on the top two firms. The product charges 39 bps in annual fees and trades in a heavy volume of around 1.6 million shares a day, on average. iShares U.S. Home Construction ETF has a Zacks ETF Rank #3 with a High risk outlook.
Consumer Discretionary Select Sector SPDR Fund (XLY)
Consumer Discretionary Select Sector SPDR Fund offers exposure to the broad consumer discretionary space and tracks the Consumer Discretionary Select Sector Index. It holds 50 securities in its basket, with key holdings in hotels, restaurants and leisure, broadline retail, specialty retail, and automobiles with a double-digit allocation each (read: Will Trump's Tariffs Fuel Inflation? ETFs in Focus).
Consumer Discretionary Select Sector SPDR Fund is the largest and most popular product in this space, with an AUM of $20.5 billion and an average daily volume of around 2.7 million shares. It charges 9 bps in annual fees and has a Zacks ETF Rank #2 (Buy) with a Medium risk outlook.
iShares Russell 2000 ETF (IWM)
iShares Russell 2000 ETF is the largest and most popular ETF in the small-cap space, with an AUM of $70.8 billion and an average daily volume of 22.4 million shares. iShares Russell 2000 ETF holds well-diversified 1,973 stocks in its basket and has key holdings in financials, industrials, healthcare, and information technology.
iShares Russell 2000 ETF charges 19 bps in annual fees and has a Zacks ETF Rank #2 with a Medium risk outlook.
SPDR Gold Trust ETF (GLD)
SPDR Gold Trust ETF tracks the price of gold bullion measured in U.S. dollars and kept in London under the custody of HSBC Bank USA. It is an ultra-popular gold ETF with an AUM of $77.9 billion and a heavy volume of about 6 million shares a day. SPDR Gold Trust ETF charges 40 bps in fees per year from investors and has a Zacks ETF Rank #3.
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