Since the beginning of the month, interest rates have been on the rise pushing yields on 10-year Treasurys over 3.5%, their highest level in seven months, boosting the appeal of the Financial Select Sector SPDR (XLF), the iShares Dow Jones US Regional Banks Index Fund (IAT) and the KBW Bank ETF (KBE).
The most recent implementation of QE2, which includes a $600 billion quantitative easing program and keeping short-term interest rates at near record lows, has resulted in increases in long-term interest rates, resulting in steeper yield curves.
This further means that banks and lending institutions are able to borrow short-term at near zero rates and lend longer-term at even higher rates, adding to these institutions’ bottom line. Furthermore, consumer spending appears to be on the rise, which tends to increased long-term borrowing. According to data from the Commerce Department, consumer spending in the third quarter of this year rose at its fastest pace since the first quarter of 2007 and helped enable the US economy expand by 2.6% during the same time period.
As for the near future, the Fed does not plan to raise short-term interest rates any time soon and long-term rates are expected to remain relatively high, enabling the financial sector to cash in on this trend. Additionally, the overall health of the US economy appears to be heading in the right direction and consumer spending is likely to continue to increase in the coming year, resulting in increased borrowing and credit card use which further enables the financial sector to reap the benefits.
Some financial institutions that are likely to reap these benefits include Bank of America (BAC) and Wells Fargo (WFC) which are heavily involved in consumer lending and credit card issuance, large global bank JP Morgan Chase (JPM) and regional banks like BB&T Corporation (BBT) and US Bancorp (USB). As mentioned above, some diversified plays on financials include:
- Financial Select Sector SPDR (XLF), which includes JP Morgan Chase, Bank of America and Wells Fargo in its top holdings
- iShares Dow Jones US Regional Banks Index Fund (IAT), which includes regional banks like US Bancorp and PNC Financial (PNC) and BB&T Corporation which are all heavily involved in consumer lending such as mortgage
- KBW Bank ETF (KBE), which is a play on banks and includes both large, global financial institutions as well as regional banks in its top holdings.
Disclosure: No Positions