What Stocks to Buy When Interest Rates Rise? Your Complete Stock Market Guide
Despite the ongoing turmoil in Ukraine, investors are turning to the next big market event… rising interest rates. And they’re wondering what stocks to buy when interest rates rise.
The Chair of the Federal Reserve, Jerome Powell, reaffirmed central banks will start raising rates at its upcoming March meeting. Even though Powell calls the Russian invasion of Ukraine a “game-changer,” the fed still has its own battle to fight with inflation soaring.
For example, oil prices are nearing $130 per barrel, leading to record gas prices. Not only that, but grains like wheat and canola are also reaching records while pushing food prices higher.
In fact, the latest Consumer Price Index (CPI) reading shows a 7.5% increase from last year, marking the largest 12-month increase since 1982. That said, stock market indexes are down significantly this year, with many entering bear market territory.
With interest rates set to rise later this month, will it put further pressure on the market like analysts are expecting? Or, will it help cool inflation and ease the tension?
Keep reading to learn more about what stocks to buy when interest rates rise and how it can affect your portfolio.
What Stocks to Buy When Interest Rates Rise: Financials
The big takeaway from rising interest rates that investors should note is that borrowing costs also rise in the short term. To explain, when you hear the “fed is raising rates,” it means they are raising the discount rate.
In other words, the discount rate is the rate central banks charge financial institutions to borrow money. So, in turn, commercial banks will also pass on the extra costs, making it more expensive to finance.
As a result, banks and other financial institutions can expand their net interest margin (NIM). A higher NIM means more income is being generated from interest income. That said, below are a few of the best financial stocks to buy when interest rates rise.
- Capital One (NYSE: COF): Most people are familiar with capital one and the financial services it offers. But over 50% of Capital One’s revenue comes from credit cards, making it one of the largest issuers. In the 4 quarter, Capital One’s revenue continued trending higher, up 4% to $8.1 billion. Also, NIM increased 25 points to 6.60%.
- Morgan Stanley (NYSE: MS): Offering investment banking, securities, investment, and wealth management, Morgan Stanley is of the largest financial institutions. MS is turning into a cash flow machine with record net revenue ($59.8B) and net income ($15B) in the 4th quarter. Looking ahead, MS will likely see higher trading activity and net interest income in 2022, fueling the growth.
Most importantly, the financial sector, particularly banks, looks undervalued compared to the overall market. Morgan Stanley currently sports a P/E around 10, while Capital One is below five. These companies look fairly valued compared to the S&P 500 ETF (NYSE: SPY) average P/E of 26.45.
High Yield Dividend Stocks
After the pandemic hit, the low-interest environment promoted growth stocks to go on a tear, with future cash flow looking more appealing. But now, with interest rates set to rise again, investors are not willing to pay a premium for the promise of future returns.
Instead, investors are looking for more present value, companies that can generate a return in any environment. This will be a critical question for investors in 2022, what will hold its value best?
So far, dividend stocks are outperforming the market. Although the SPY is down 12% YTD, the Vanguard High Dividend Yield ETF (NYSE: VYM) is only down 3% in 2022 with strong relative volume since mid-January.
- Kraft Heinz Company (Nasdaq: KHC): Being a Warren Buffet favorite, you can expect a high yield which is close to 4%. But Kraft Heinz is more than just a dividend stock. The company is amid a strategic turnaround. That being said, by strengthening its portfolio and reducing debt, KHC looks to enhance margins further.
- Realty Income (NYSE: O): Best known among the dividend investor community, Reality income is a REIT operating primarily in the U.S. With this in mind, Reality leases to some of the biggest retail brands like Walgreens and 7-Eleven. Also, Reality pays dividends monthly with a current yield of over 4.5%.
The best part about dividend stocks is even if they fall in value, you receive a payout. And most important, reinvesting dividends is one of the most effective ways of building wealth.
Keep reading for more info on what stocks to buy when interest rates rise.
Commodities, Energy & Utilities
If you are keeping up with the stock market, then you know the commodity market is surging. With gas prices reaching record levels, oil companies are seeing higher margins. As a result, investors are crowding into energy stocks hoping for a piece of the growth.
The sector is being led by big oil companies such as Exxon Mobile (NYSE: XOM) and Chevron (NYSE: CVX). That said, the two are both up over 40% in 2022 as oil becomes a hot commodity once again.
In fact, the Energy Select Sector SPDR ETF (NYSE: XLE) is leading the market, up 40% YTD. Moreover, energy companies generally pay higher dividends to attract investors.
Furthermore, several grains and metals are also up significantly this year. For example, gold is getting a boost, with investors rushing for safety. To illustrate, the SPDR Gold Trust (NYSE: GLD) is gaining strength as it approaches ATH territory.
One Last Thought: What Stocks to Buy When Interest Rates Rise
To sum up, the stock market is constantly evolving. As investors and institutions process new information it gets projected in the stock market.
The most important thing going forward will be finding value in the market. With this in mind, commodities are acting like growth stocks in 2020. And financials look undervalued when compared to the overall market.
Now that you know what stocks to buy when interest rates rise, what will your portfolio look like this year?
Market rotations are a natural part of the process. Instead of chasing the growth stocks of yesterday, it’s time to find value and invest for the long term.
On the other hand, the war in Ukraine is stoking fear in the markets with uncertainty. If you are looking to protect your portfolio from the risks, check out the best stocks to buy during war.
Even if the market continues falling, investing in value will continue rewarding investors in the long run. Now is the time to look for leaders, not companies promising hopes and dreams.
About Pete Johnson
Pete Johnson is an experienced financial writer and content creator who specializes in equity research and derivatives. He has over ten years of personal investing experience. Digging through 10-K forms and finding hidden gems is his favorite pastime. When Pete isn’t researching stocks or writing, you can find him enjoying the outdoors or working up a sweat exercising.