The Federal Reserve appears insistent that short-term interest rates will remain near zero for a “considerable time.” Evidence suggests plenty of traders and investors either see things differently or just do not believe the Fed’s rhetoric.
As was reported last week, the SPDR S&P Regional Banking ETF (NYSEArca: KRE), a rate-sensitive sector exchange traded fund if ever there was one, has been something to behold as of late. Over the past month, KRE, the largest regional bank ETF, is up 3.3% and has hauled in almost $25 million in new assets this month. [Regional Bank ETFs Rally]
Additional evidence points to some market participants preparing for higher interest rates, which is underscored by a comparison of the Financial Select Sector SPDR (NYSEArca: XLF), the largest financial services ETF, and the Utilities Select Sector SPDR (NYSEArca: XLU), the largest utilities ETF.
Referring to last Thursday’s action, Ritholtz Wealth Management Research Director Michael Batnick said, “As the 5-year treasury note yields hit their highest levels since May 2011, the XLF/XLU ratio is up over 2% and is having the fourth largest daily increase of 2014.”
“This is something worth paying attention to because these sectors are both very sensitive to interest rates, albeit in different ways. In theory banks should benefit from rising rates while utilities and their bond like characteristics benefit from falling rates,” adds Batnick.
Performance data prove the XLF/XLU comparison is significant. Remember that as 10-year Treasury yields spiked last year, XLF surged 35.5% while XLU gained just 13%, less than half the returns offered by the S&P 500. During the 2004-2006 interest rate-tightening cycle, XLU was a laggard while XLF climbed 40%. [Rising Rates Sector ETF Ideas]
In further evidence that some market participants are expecting rates to rise, here is the breakdown of the top-10 non-leveraged ETFs over the past month: Five financial services ETFs, four health care funds and the WisdomTree Japan Hedged Equity Fund (NYSEArca: DXJ), a predictable beneficiary of expected dollar strength brought on by rising rates.
The other lesson from that top-10 group is that health care can be a durable sector as rates rise. Like XLF, the Health Care Select Sector SPDR (NYSEArca: XLV) gained about 40% during the 2004-2006 tightening cycle.
Financial Select Sector SPDR
