Investors have been wringing their hands for months over expectations of higher interest rates. But at least one sector stands to profit in such an environment: banks. That’s because higher rates signal a stronger economy, which comes with improved consumer demand for financial products, such as mortgages and small-business lines of credit, says Dave Mazza, head of exchange-traded-fund research at SPDR.
Consider Financial Select Sector SPDR ETF (XLF). The fund tracks the Financial Select Sector index—one of the nine indexes that represent major economic sectors of Standard & Poor’s 500-stock index. The fund holds a diversified but highly concentrated portfolio of 85 stocks weighted by market value. Its top 10 holdings, most of which are big banks such as JPMorgan Chase ( JPM )and Wells Fargo (WFC), represent nearly 50% of the fund’s assets. The ETF charges annual fees of 0.16%, or 63% less than the average expenses of financial-sector ETFs.
Risk comes with the territory when you invest in financial stocks. The ETF got crushed in 2008 (down 55%) and in 2011 (down 17%). But take heart. The big banks that torpedoed the fund in the past have cut expenses, shored up their balance sheets and settled many of their legal problems. What’s more, the financial sector as a whole looks strong and stable. After a tough 2014, analysts expect earnings growth at financial firms to outpace that of the broad market next year, according to S&P Capital IQ.
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