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Tickers in this Article: ITB, XHB, SPY
After posting two 'above par' earnings season for two consecutive quarters, corporate America has undoubtedly failed to keep up its solid pace in the latest earnings season. This is a direct result of a generic slowdown across the globe which has caused a decrease in private consumption expenditure (PCE). Private consumption has been the major laggard variable contributing to the poor GDP growth rate of 1.5% for the second quarter. Clearly, a series of domestic as well as global economic turbulences across board have shaken the growth foundation that the American economy has been striving for after withstanding overwhelming recessionary shocks post 2008 sub-prime crisis. The consecutively weak jobs data, a series of credit rating downgrades and the sluggish GDP number may be an indication that the worst may be far from over.

However, fiscal 2012 has not entirely been a sad story for the markets. After posting double digit gains for the first quarter, the markets were not able to extend their gains further. Increased volatility across all asset classes was triggered by the risk aversion climate among investors.

Fortunately, markets have come back in recent months, erasing some of the pain from the second quarter of the year. Yet, going forward, an uncertain trend is most likely to continue, especially if the policy makers fail to respond to the situation across the PIIGS nations and if emerging markets look to slow down further (read Three Resilient European ETFs Still Going Strong).

For most products from the exchange traded fund (ETF) space, the story has pretty much been the same. After getting off to a good start the previous fiscal year, most ETFs lost their way from the second quarter 2011 onwards. The reason for this can be explained by the broader market slump that was a direct result of a series of unwanted economic developments from the domestic as well as the global space.

Thankfully for most investors who look to play the markets via a basket approach, most (if not all) sector-based, as well as broad market ETFs have finally starting to bottom out after putting up a dismal performance last year (see Do You Need a High Momentum ETF?). The Dow Jones U.S. Home Construction ETF (ITB), and the SPDR S&P Homebuilders ETF (XHB) are great examples of the above statement, having surged from their lows.

In fact, comparing the performance of the aforementioned products reveals the extent to which ITB and XHB have rebounded and outperformed the broader market after biting the dust. The table below compares their performances with that of the S&P 500 for various time periods over the past one year.

 

ETF / INDEX
Year to Date returns (as of 8/6/12)
1 Year returns (as of 8/6/12)
1st Quarter 2012  Returns
2nd Quarter 2012  Returns
Rebound from 52 week low (as of 8/6/12)
ITB
39.41%
41.44%
24.05%
14.35%
101.22%
XHB
27.15%
30.29%
25.03%
0.56%
76.82%
S&P 500
10.86%
7.89%
12.00%
-3.28%
29.72%
As you can see, these products, while possessing some rocky performances in some time periods, have bounced back quite strongly from their 52 week lows, far in excess of what the broad market has seen. This suggests that at least a couple ETFs are seeing more robust levels of momentum and interest from investors, despite the overall gloomy tone over stocks at this time.

Below, we highlight these strong performing products which could be interesting choices for investors seeking high momentum plays, or ones that could be entering overbought territory and thus are now potential short candidates:

The two funds, ITB and XHB, are largely in the same sector and have been impacted by similar trends. The two occupy a dominant space in the building and construction space and make up more than 90% of the assets in this ETF segment.  

After the dark days of the housing bubble burst back in the latter years of the previous decade, the U.S. housing market has been attempting for a turnaround since the bottom fell out in this crucial market segment (read Is it Time to Buy Build America Bond ETFs?).

To say the least, the past few years have been very sluggish for the housing market. High levels of unemployment, lower consumer confidence, a slowdown in the economy, and far more strict compliance norms for mortgage lending had been major bottlenecks for the industry as a whole.

However, the industry has been rebounding slowly but surely. Lower mortgage rates, an increase in consumer confidence in the housing market and increased demand are some of the positives for the industry. Moreover, most of the companies from this sector have implemented tighter cost control mechanisms which has, in turn, led to an increase in margins.

Clearly, ITB and XHB are direct beneficiaries of the housing sector rebound and are up by 101.22% and 76.82% respectively from their 52-week lows. The uptrend is expected to continue in these two products given the low interest rates scenario and further increase in demand for homes (see Five Best Performing ETFs (So Far) in 2012).

However, questions still remain about the timing and intensity of a full fledged economic recovery. Both of these factors are functions of the homebuilder industry, would remain vulnerable to the trends and cyclicality in the economy (see more in the Zacks ETF Center).

Investors should also note that while the two solid performers are in the housing industry, they have a different focus which had led to these somewhat divergent returns over the past year. Additionally, ITB currently has a Zacks ETF Rank of 1 while XHB has a still solid Rank of 3 or 'hold'.

ITB follows the Dow Jones U.S. Select Home Construction Index which measures the performance of the home construction industry in the U.S stock markets. ITB employs a representative sampling technique to include stocks in its portfolio from the underlying index. The ETF is appropriate for investors looking for a pure play in the homebuilder segment as it provides concentrated exposure to stocks from this segment.

On the other hand, XHB tracks the S&P Homebuilders Select Industry Index. This index is a sub industry portion comprising the homebuilder stocks from the S&P 500 Total Market Index. The S&P Homebuilders Select Industry Index is an equal weighted index. However, it does not provide a pure play in the homebuilder industry as it is exposed to a variety of complementary industries.

Also, contributing to the tremendous growth of these two ETFs is the small and mid cap focus of these two funds, since mid and small cap stocks tend to outperform their large cap peers during an uptrend (read Mid Cap ETF Investing 101). According to xtf.com, ITB is exposed to small cap stock to the extent of 27% and mid cap stocks to the extent of 55%. Whereas, XHB allocates 51% of its total assets in small cap stocks and around 40% to the mid cap segment.

These differences in sector exposure and capitalization levels are the keys for the divergent returns in the past few months. While they have led to ITB's outperformance so far, this could change if we see more of a focus on consumers as opposed to solely home construction as we close out 2012.

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