Up 27% for the year, the Invesco KBW Regional Banking ETF (KBWR), which gives investors a tactical tilt to the hot sector, is riding a strong wave of momentum as yields begin to rise.

KBWR seeks to track the investment results of the KBW Nasdaq Regional Banking Index. The fund generally will invest at least 90% of its total assets in the securities that comprise the underlying index.

The underlying index is a modified-market capitalization-weighted index comprised of companies primarily engaged in U.S. regional banking activities, as determined by the index provider. The underlying index is designed to track the performance of U.S. regional banking and thrift companies that are publicly-traded in the United States.

For the most part, KBWR has been in lockstep with the S&P 400 Regional Banks index year-to-date. To highlight the recent strength in the regional banking sector, the ETF is up 35% within the last few months.

^SP400RBSI Chart

Higher Rates Translate to Higher Profits

While rising interest rates might not appeal to borrowers, they certainly help regional banks. Higher rates charged on loan products can also translate to higher profits.

“Mortgage rates for US homebuyers had their biggest jump in more than a year last week, as higher Treasury yields and a rise in inflation expectations begin to feed through to the real economy,” a Financial Times article noted. “The average 30-year US mortgage rate sat at 2.99 per cent on Friday (February 21), according to Bankrate.com, having hit an all-time low of 2.8 per cent as recently as February 10.”

“The shift, lenders and analysts said, was driven by mortgage-bond investors concerned that as the virus subsides, higher growth and inflation could push interest rates up further, leaving them nursing losses,” the FT article added. “As bond buyers demand higher yields, mortgage lenders, who sell into the bond market, must charge borrowers more to protect their profits.”

Higher mortgage profits could provide regional banks with sustainable revenue over the next few years.

“The market is looking out two or three years and thinking that rates are going to rise,” said Todd Johnson, a division manager in Wells Fargo’s mortgage unit.

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