The CME Group, which in its economic research calculates the odds of interest rate changes, saw the odds of a rate hike in December briefly spike to 100.2% last week.
Federal Reserve Chair Janet Yellen seems to be coming around to a rate hike action. Meanwhile, the election of Donald Trump means the U.S. will likely see higher inflation going forward. Many of Trump’s policies have inflationary consequences, including his plans to boost infrastructure spending, effect stronger immigration controls and enforce a stricter trade policy.
All of these will lead to higher spending, higher wages and higher prices for goods . . . and that is a perfect formula for an inflationary environment.
And it’s widely expected that the Fed will higher rates in response. It also helps the case that employment is high and the economy has strengthened materially over the last half decade. The time has come.
With the likelihood of a rate hike now all but sealed, it’s time to consider how to position your portfolio.
One of the big underrated investing opportunities lies in insurance companies and brokerages. Companies in both segments have a lot of assets that are held in fixed-income securities. And these securities have been trapped offering low yields for years.
Here are two stocks that will thrive under higher interest rates in 2017:
Stock No. 1 for an Interest Rate Hike: Allstate (NYSE: ALL)
Allstate trades at less than 12 times next year’s earnings estimates and it’s a leader in the property & casualty insurance space. The beauty of the P&C industry is that it has a lot of exposure to fixed-income investments.
As rates go up, the return on those fixed-income securities and interest income increases. Investors should focus on companies with low debt; that is a key characteristic of Allstate. Allstate has also been a buyback machine, reducing its outstanding shares by 20% over the last half decade. It also helps that Allstate offers a 1.8% dividend yield and has spent the last five years increasing its annual dividend.
Stock No. 2 for an Interest Rate Hike: Charles Schwab (NASDAQ: SCHW)
Charles Schwab will likely see its earnings boom with an interest rate hike. Schwab, like many banks, has had its net interest margins squeezed thanks to low rates. Meanwhile, Schwab has managed to grow its assets nicely since the financial crisis; in particular, doubling assets.
Schwab has been taking a hit under low interest rates, waiving fees so that money market clients don’t get hit with negative yields. But if interest rates eventually return to pre-financial-crisis levels, Schwab’s earnings could jump 65%, by some accounts. So, while Schwab might be getting overlooked thanks to its 25 times forward price-to-earnings multiple, the stock will quickly get “cheap” as interest rates rise.
It’s true that banks will be solid investments as interest rates move higher. However, investors may want to look to stocks that are getting overlooked now that may shortly become beneficiaries of an interest rate hike. That’s just the case with Allstate and Schwab. Each could be a solid buying opportunity before the December rate hike.