Financial services stocks, including bank shares, are among the equities most positively correlated to rising interest rates. However, the sector left investors disappointed last year, joining the broader market to the downside despite seven interest rate hikes by the Federal Reserve.
Early in 2023, that scenario is changing for the better, as highlighted by the Invesco KBW Bank ETF (NASDAQ: KBWB). That exchange traded fund is higher by 8% year-to-date, or nearly double the 4.21% returned by the S&P 500.
Following a January rate increase by the Fed and further confirmation that inflation is stubbornly elevated, more assistance for KBWB and its holdings could be on the way, particularly if long-term rates move to the upside.
“The Federal Reserve’s campaign to tackle high inflation—by way of short-term interest rate increases—has driven long-dated bond yields higher as well. For instance, the 10-year Treasury yield has climbed to about 3.9% from below 0.6% at its the low point during the pandemic era. The 30-year Treasury yield now stands just under 4%,” reported Jacob Sonenshine for Barron’s. “That’s a positive for banks. Higher long-dated bond yields typically boost bank revenue—as long as the number of loans issues remains steady or grows.”
The $2.36 billion KBWB debuted in November 2011 and holds 25 stocks. The Invesco ETF follows the KBW Nasdaq Bank Index, which, as its name implies, is a pure bank benchmark. That’s a relevant point because other companies under the financial services umbrella, such as asset managers and brokers, aren’t as rate-sensitive as pure-play banks.
That sensitivity is born out of banks’ dependence on net interest margins, or the spread between the cost at which they borrow money from the Fed and loan capital to clients.
“While there’s been speculation in markets that the Fed will stop raising rates at some point this year, the federal funds futures market projects the central bank won’t actually cut rates until the end of this year, at the earliest. If short-term rates stabilize this year around or above their current elevated levels, that should provide an environment for bank stocks to gain,” Barron’s noted, citing Bank of America research.
Adding to the allure of KBWB are two important points: First, analysts widely expect banks to sport higher earnings and revenue growth this year and in 2024. Second, the industry is rich with value stocks — a designation sported by about 91% of KBWB holdings.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.