The materials sector typically prospers when the global economy experiences growth. Recently, China announced a stimulus package that includes measures such as lowering reserve requirements for banks, reducing interest rates, promoting stock buybacks, providing relief for homebuyers, among other initiatives.
In response to this announcement, Chinese stocks and exchange-traded funds (ETFs), many of which have performed significantly worse than the S&P 500 in recent years, surged. The Vanguard Materials ETF (VAW -0.40%) also saw a significant rise, reaching a new intraday all-time high on Friday.
The Vanguard Materials ETF includes major companies like Linde, Sherwin-Williams, and Ecolab, which play a crucial role in economic growth despite not being as prominent as large sectors like technology, financials, or healthcare. The sector also includes many mid-cap and small-cap companies, such as Louisiana-Pacific, an industry leader that has seen substantial market cap growth over the last decade.
Although the materials sector has the smallest weighting in the S&P 500 at just 2.2%, its importance to global economic growth cannot be overlooked. The sector encompasses a variety of industries, including chemical companies, metal miners, packaging manufacturers, and construction materials producers, among others.
The sector’s performance is closely tied to commodity prices, with oversupply potentially leading to lower prices and weaker margins, while higher demand can justify increased supply and capital investment. Higher interest rates can slow economic growth and reduce global demand for materials. Therefore, recent actions by the Federal Reserve to lower interest rates and China’s stimulus package are seen as beneficial for the sector, especially considering China’s manufacturing-driven economy.
The Vanguard Materials ETF offers several advantages for investing in commodity-dependent sectors, including a low expense ratio of 0.1% and a minimal investment requirement of $1. The ETF has a price-to-earnings ratio of 16.6 and offers a yield of 1.6%, presenting a lower valuation compared to the S&P 500 and a slightly higher yield.
ETFs, such as the Vanguard Materials ETF, are effective tools for achieving diversification in sectors where individual asset management can be complex. This ETF provides broad exposure to the essential materials and commodities driving the modern economy, making it a suitable choice for investors interested in general economic growth rather than specific industries.
However, it is important to note that the materials sector can be volatile, particularly during periods of uncertainty or economic downturns. The Vanguard Materials ETF experienced a maximum drawdown of 41.1% over the last five years and 25.5% over the last three years, not including the pandemic-induced market sell-off.
This volatility means that the Vanguard Materials ETF may be best suited for risk-tolerant investors who are optimistic about lower interest rates facilitating growth and helping major economies like the U.S. and China avoid recessions.
Lastly, Daniel Foelber, the author of this report, does not have any positions in the mentioned stocks. The Motley Fool has positions in and recommends Linde, Ecolab, and Sherwin-Williams. The Motley Fool’s disclosure policy is available for further details.
