Markets have been spooked lately by the rising yield environment. The US 10-year Treasury yield recently reached 2.84%, up 16% year to date while the German 10-year bund was at 0.7%, up about 65% year to date. Investors continue to question equity valuations following an 9-year bull run, as bond and bund yields begin to factor in a rising interest rate cycle.
Given this backdrop we’ve seen a rotation out of high yield stocks like telecoms and utilities, into the banking and insurance sectors. The chart below shows the correlation between the European banking sector and the German 10-year bund over the last year.
We have been positive on the European banking sector for some time, given the improving economic backdrop across the Eurozone which bodes well for the sector. European Q4 GDP came in ahead of expectation, as did PMI data. This is the Purchasing Managers’ Index, an indicator of the health of the manufacturing sector.
Specific to the banks, balance sheets have been repaired, lending growth is accelerating, consumer spending is improving, and confidence levels are moving in the right direction. Both core and peripheral European banks are primed to take advantage of this upturn and to some extent this has been reflected in higher moves over the last year. While the sector continues to trade at attractive valuations due to historical legacy issues, we believe that these issues, including non-performing loans (NPLs), have been well managed and should be less of a headwind going forward. ECB Quantitative Easing is nearing an end, as the market moves to a more normalised interest rate environment over the coming years to the benefit of the banking sector.
There are several ways to play this theme:
- Direct investing in singular banking shares, like Bank of Ireland, Lloyds, BNP Paribas etc.
- Invest in the iShares Euro Stoxx 600 Banks ETF which offers diverse exposure to the sector and currently offers a very attractive distribution yield of 3.5-4%. Top holdings include HSBC, Banco Santander, BNP Paribas, ING Groep, UBS, Lloyds, Banco Bilbao, Intesa Sanpaolo, Societe Generale and Barclays.
- The Cantor Fitzgerald Euro Financials Kick Out Bond III is a 5-year investment with potential returns linked to the performance of 4 leading European financial stocks. Click here to view our investment summary for this bond.
If yields move considerably higher over the short term equity markets will come under further downward pressure, regardless of what sector an investor may be exposed to. At the time of writing, the Dow Jones (-8%) is back to its levels of December 2017 and the Dax (-7%) is back to levels seen in September 2017.
To speak with a Portfolio Manager or Account Executive today, please phone the Cantor Fitzgerald dealing desk on 01 633 3633.
Click here to download our February Investment Journal.