Bank Sector ETFs Could Lead as Rates Rise | ETF Trends

With the Federal Reserve itching to begin interest rate normalization, equity investors can also try to capitalize on a rising rate environment through financial sector-related exchange traded funds.

The futures market is pricing in a 81% chance the Federal Open Market Committee will announce a rate hike after its December 16 meeting, reports Jeff Cox for CNBC.

“To the extent monetary tightening is accompanied by a stronger dollar and/or tighter credit market conditions, we could expect to see additional pressure on stocks,” according to Russ Koesterich, Global Chief Investment Strategist and Head of the Model Portfolio & Solutions Business at BlackRock. “This suggests investors adopt a more selective approach, emphasizing areas of the market that can either withstand, or even benefit, from a gradual rise in rates. One example is the financial sector. Rising rates create opportunity for financial stocks, particularly banks, to improve their margins.”

For bank exposure, ETF investors have a number of options to choose from, including the SPDR S&P Regional Banking ETF (NYSEArca: KRE), iShares U.S. Regional Banks ETF (NYSEArca: IAT) and PowerShares KBW Regional Bank Portfolio (NYSEArca: KBWR). These regional bank ETFs all include greater tilts toward smaller banks.

Additionally, the SPDR S&P Bank ETF (NYSEArca: KBE) and PowerShares KBW Bank Portfolio (NYSEArca: KBWB) lean toward larger companies. KBWB follows a market cap-weighted index, which make the index heavy on prominent banking names. KBE, on the other hand, tracks an equal-weight indexing methodology, so the ETF will include a greater tilt toward mid-cap banks. [4 Reasons to be Optimistic about Bank ETFs]

“Bank stocks today look better positioned for relative outperformance, at least in the early part of the coming cycle,” according to Bernstein analysts John McDonald and Kevin St. Pierre.

Specifically, the Bernstein analysts pointed to banks like Bank of America (NYSE: BAC), Citigroup (NYSE: C) and JPMorgan Chase (NYSE: JPM).

KBWB includes a 8.5% tilt toward BAC, 8.0% in C and 8.1% in JPM.

KRE, on the other hand, follows a more equal-weight indexing methodology, which includes about a 1.7% tilt toward BAC, JPM and C.