Sectors and stocks that might protect you from rising interest rates

Posted: 17 February 2022 5:10 pm
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The Fed signaled again this week that interest rate hikes are likely to start soon. Here are some investment ideas that could do well despite rising rates.

The Federal Reserve is widely seen as likely to start raising interest rates as soon as next month, for the first time in years. That’s a big factor in the market’s 2022 downturn, which may already have taken a bite from your portfolio.
Here’s a look at what’s expected — and a few moves you might make to protect yourself.

Rattled by rate talk

In the last two quarters of 2021, members of the Federal Open Market Committee (FOMC) began increasing their forecasts for the number of expected rate hikes in 2022 in an effort to curb rising inflation.
In September, half of the Fed members saw the Federal Reserve hiking rates at least once in 2022. By December, 12 of the 18 FOMC members said they expected at least three rate raises in 2022. That likelihood has been echoed by Fed officials more than once in 2022, and in Fed meeting notes released this week.
It’s the first time since 2018 the Fed is set to hike interest rates, and it’s rattled the market. The S&P 500 is down 6.70% so far this year, while the Dow Jones Industrial Average is down 4.51% year to date. The tech-heavy Nasdaq Composite has taken the brunt of investors’ fear, dropping 10.79% this year into a technical bear market.
While it’s been a while since rates have gone up, there are tried-and-true rules to investing in a rising-rate environment. Generally speaking, tread lightly when it comes to investing in high-growth stocks.
The share price of these companies today are usually based on the potential for future profits. When rates rise, future profits are worth less today.
Communication technology company Zoom Video Communications (ZM), for instance, is down almost 25% so far this year. Electronic signature company DocuSign (DOCU) is down nearly 24%.
Instead, consider shifting to sectors that generally benefit from rising rates. Oil field service company Halliburton (HAL) is up almost 40% in 2022. Wells Fargo (WFC) is up nearly 15%.

Don’t expect broad market returns

Investors looking for investment ideas during rising rates shouldn’t expect all sectors to perform well. That’s what Robert R. Johnson, professor of finance at Creighton University and CEO of Economic Index Associates, said when asked about the best sectors in which to invest amid rising interest rates.
“The near certainty of Fed tightening and rising interest rates in 2022 means that investors should lower their expectations for broad equity market returns.”
Investing during periods of rising interest rates can be successfully done by shifting toward companies and sectors that tend to do well in the higher rates environment, such as energy, financials, real estate and consumer staples.
Companies that have a large cash balance and a track record of consistent dividend payouts have also performed well during rising interest rates. High dividend stocks outperformed the S&P 500 in seven out of the 10 rising interest rate periods since 1960, according to data from Global X Management Company.
Here are four sectors and stocks that could outperform.

Energy

The energy sector has historically been the best performing sector leading up to a peak in inflation, according to data from Refinitiv. Inflation has been rising steadily since early 2021, so it’s not surprising that the energy sector was the best-performing sector in the S&P 500 last year.
As of January 2022, the consumer price index (CPI) shows inflation at 7.5%, its highest since 1982. And according to a recent Bankrate survey, we can expect another year of increasing inflation. If that happens, the energy sector could continue to dominate in 2022.
So far this year, energy has again been leading the S&P 500, up nearly 22%. According to financial information and analytics company S&P Global, energy was the only sector that didn’t post a loss in January.
Benchmark crude oil prices have surged by $20 per barrel in the last month and a half and are expected to continue to rise, as underperformance in production levels continues to drive prices higher. When crude oil prices rise, oil stock prices tend to follow, too, because these companies derive a portion of their earnings from the amount of oil they sell.
In all, energy stocks have performed well in a rising rate environment. This bodes well for investors since the Fed has already signaled that it will begin raising rates this year.

Watch these stocks and ETFs

These energy stocks and ETFs have been performing well over the last year and so far in 2022.
Devon Energy (DVN)

  • Energy company engaged in hydrocarbon exploration in the US
  • Performance over one year: 156.88%
  • Performance year to date: 22.49%
  • Annual dividend yield: 7.43%
  • Analysts’ opinion: 10 Strong Buys, 13 Buys, 9 Holds
  • Analysts’ consensus recommendation: 1.9 (Buy)

Halliburton (HAL)

  • American multinational oil field service company
  • Performance over one year: 62.14%
  • Performance year to date: 38.89%
  • Annual dividend yield: 1.43%
  • Analysts’ opinion: 11 Strong Buys, 23 Buys, 3 Holds, 1 Underperform
  • Analysts’ consensus recommendation: 2.2 (Buy)

First Trust Natural Gas ETF (FCG)

  • Tracks the ISE-Revere Natural Gas Index
  • Top 3 holdings:
      1. Western Midstream Partners: 5.10%
      2. Occidental Petroleum: 4.73%
      3. ConocoPhillips: 4.67%
    1. Performance over one year: 67.24%
    2. Performance year to date: 14.12%
    3. Expense ratio: 0.60%
    4. Annual dividend yield: 1.88%

    Invesco Dynamic Energy Exploration & Production ETF (PXE)

    • Tracks the Dynamic Energy Exploration & Production Intellidex Index
    • Top 3 holdings:
        1. Occidental Petroleum: 5.61%
        2. EOG Resources: 6.61%
        3. Marathon Petroleum: 5.38%
      1. Performance over one year: 65.71%
      2. Performance year to date: 14.34%
      3. Expense ratio: 0.63%
      4. Annual dividend yield: 1.55%

      Financials

      Financial stocks generally benefit from a strong economy and higher rates, says Shaun Heng, vice president of growth and operations at CoinMarketCap and former investment banker.
      “Brokerage firms, banks and other companies who provide financial services will generally benefit directly from rising interest rates,” Heng said. “The rise in rates for loans, for example, will equate to increased profits for such businesses. This makes it an ideal sector to invest in when the Fed announces hikes in interest rates.”
      Banks make money from charging a higher interest rate on the money they lend out compared to the rate they pay customers for deposits.
      Similarly, brokerage firms earn money from the interest earned on cash balances held in client accounts and from lending client money elsewhere.
      Insurance companies make a profit off the spread between what it owes policyholders versus what it can make with its investments. Insurance companies invest a portion of premiums in the bond market, and when rates are high, it makes more money off that spread.
      Financials, which was among the market’s top-performing sectors in 2021, may, then, see continued growth in 2022 amid rising rates.
      But Refinitiv data shows that financials tend to underperform in the year leading up to a peak in inflation. Whether 2022 is one of those years remains to be seen, but the financials sector is currently up 2.74% so far this year. In the year after inflation has peaked, though, financials are consistently the best performing sector on average, which could mean the sector’s biggest gains have yet to come.

      Watch these stocks and ETFs

      These financial stocks and ETFs have been performing well over the last year and so far in 2022.
      Upstart Holdings (UPST)

      • AI-powered lending platform
      • Performance over one year: 71.72%
      • Performance year to date: 3.56%
      • Annual dividend yield: None
      • Analysts’ opinion: 1 Strong Buys, 5 Buys, 2 Holds, 1 Underperform
      • Analysts’ consensus recommendation: 2.4 (Buy)

      Wells Fargo & Company (WFC)

      • American financial services company
      • Performance over one year: 56.03%
      • Performance year to date: 12.54%
      • Annual dividend yield: 1.72%
      • Analysts’ opinion: 4 Strong Buys, 8 Buys, 15 Holds, 4 Underperforms
      • Analysts’ consensus recommendation: 2 (Buy)

      SPDR S&P Insurance ETF (KIE)

      • Tracks the S&P Insurance Select Industry Index
      • Top 3 holdings:
          1. Unum Group: 2.54%
          2. Assured Guaranty: 2.51%
          3. MetLife: 2.43%
        1. Performance over one year: 16.20%
        2. Performance year to date: 0.32%
        3. Expense ratio: 0.35%
        4. Annual dividend yield: 1.92%

        Financial Select Sector SPDR Fund (XLF)

        • Tracks the Financial Select Sector Index
        • Top 3 holdings:
            1. Berkshire Hathaway Class B: 13.03%
            2. JPMorgan Chase: 10.33%%
            3. Bank of America: 7.74%
          1. Performance over one year: 23.12%
          2. Performance year to date: 0.35%
          3. Expense ratio: 0.10%
          4. Annual dividend yield: 1.58%

          Real estate

          Rising interest rates can pose challenges for real estate investment trusts (REITs), as higher rates can increase REIT borrowing costs. But if interest rates are rising due to a strengthening economy and higher inflationary activity, REITs can actually benefit from increasing rates.
          REITs typically benefit from inflationary periods and periods of rising rates because real estate owners typically have greater ability to raise rents and pass that income on to shareholders.
          According to investment management firm Cohen & Steers, REITs over the last three decades have had a 10.8% annualized return in periods of rising rates and positive economic growth.
          Behind energy, real estate was the market’s second-best performing sector in 2021. The sector has been down roughly 13% so far this year, but history shows that REIT returns increase more often than not during periods of rising interest rates and inflation.

          Watch these stocks and ETFs

          These REIT stocks and ETFs have been performing well over the last year and so far in 2022.
          Preferred Apartment Communities (APTS)

          • Georgia-based REIT engaged in the ownership and operation of Class A multifamily properties and grocery-anchored shopping centers
          • Performance over one year: 226.38%
          • Performance year to date: 35.80%
          • Annual dividend yield: 2.71%
          • Analysts’ opinion: 3 Strong Buys, 1 Buy, 1 Hold
          • Analysts’ consensus recommendation: 2.3 (Buy)

          Bluerock Residential Growth REIT (BRG)

          • REIT focused on acquiring institutional-quality apartment properties in demographically attractive growth markets
          • Performance over one year: 133.54%
          • Performance year to date: 0.00%
          • Annual dividend yield: 2.44%
          • Analysts’ opinion: 2 Strong Buys, 3 Buys, 1 Hold
          • Analysts’ consensus recommendation: 3 (Hold)

          Vanguard Real Estate Index Fund ETF (VNQ)

          • Tracks the MSCI US Investable Market Real Estate 25/50 Index
          • Top 3 holdings:
              1. Vanguard Real Estate II Index Fund: 11.30%
              2. Prologis: 6.50%
              3. American Tower: 6.50%
            1. Performance over one year: 16.60%
            2. Performance year to date: -10.05%
            3. Expense ratio: 0.12%
            4. Annual dividend yield: 2.19%

            Charles Schwab US REIT ETF (SCHH)

            • Tracks the Dow Jones Equity All REIT Capped Index
            • Top 3 holdings:
                1. Prologis REIT: 7.41%
                2. American Tower REIT: 7.35%
                3. Crown Castle International REIT: 4.94%
              1. Performance over one year: 18.91%
              2. Performance year to date: -10.36%
              3. Expense ratio: 0.07%
              4. Annual dividend yield: 1.63%

              Consumer staples

              When interest rates go up, people may be more attracted to saving than spending. Rising costs can cause people to think twice about splurging on big ticket items. But people still need to spend on staples like food, beverages and hygiene products.
              And while these companies too battle rising inflationary costs, they can usually pass some of those costs on to consumers.
              A recent report from investment management company Hartford Funds shows that, along with energy, equity REITs and financials, the consumer staples sector has outperformed every other sector during periods of rising inflation between 1973 and 2021.
              As rates go up to battle rising costs, consider investing in stocks that have higher pricing power, as they are able to increase their prices with inflation better than some other industries.

              Watch these stocks and ETFs

              These consumer staples stocks and ETFs have been performing well over the last year and so far in 2022.
              Tyson Foods (TSN)

              • American food company and world’s second largest processor of chicken, beef and pork products
              • Performance over one year: 39.24%
              • Performance year to date: 6.61%
              • Annual dividend yield: 1.95%
              • Analysts’ opinion: 4 Strong Buy, 7 Buys, 5 Holds
              • Analysts’ consensus recommendation: 2.3 (Buy)

              Coca-Cola (KO)

              • American beverage corporation
              • Performance over one year: 22.54%
              • Performance year to date: 3.59%
              • Annual dividend yield: 2.76%
              • Analysts’ opinion: 4 Strong Buy, 7 Buys, 13 Holds, 1 Underperform
              • Analysts’ consensus recommendation: 2.1 (Buy)

              Consumer Staples Select Sector SPDR Fund (XLP)

              • Tracks the Consumer Staples Select Sector Index
              • Top 3 holdings:
                  1. Procter & Gamble: 16.49%
                  2. Coca-Cola: 10.21%
                  3. PepsiCo: 9.92%
                1. Performance over one year: 15.11%
                2. Performance year to date: -1.74%
                3. Expense ratio: 0.10%
                4. Annual dividend yield: 2.33%

                iShares US Consumer Staples ETF (IYK)

                • Tracks the Russell 1000 Consumer Staples RIC 22.5/45 Capped Index
                • Top 3 holdings:
                    1. Procter & Gamble: 16.71%
                    2. Coca-Cola: 10.50%
                    3. PepsiCo: 10.18%
                  1. Performance over one year: 13.30%
                  2. Performance year to date: 0.66%
                  3. Expense ratio: 0.41%
                  4. Annual dividend yield: 1.48%

                  Final thoughts

                  Interest rate hikes are expected to start soon, according to the minutes of the Federal Reserve Open Market Committee released Wednesday. And while past performance isn’t indicative of future results, these four sectors have shown to perform well in periods of rising interest rates and inflation.
                  At the time of publication, Matt Miczulski owned shares of WFC and HAL.

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