The Federal Reserve expects at least two hikes in its benchmark interest rates by late 2023, according to its recent dot plot charts. In fact, seven of the 18 members of the Federal Open Markets Operations Committee (FOMC) anticipate a hike in the benchmark rate sometime next year.

While the Fed Chairman Jerome Powell expects the prevailing inflation rate to be transitory, he stated in recent testimony to  the U.S. Congress that the FOMC will use its  tools to guide inflation back down in the event that the Fed’s narrative does not play out as it anticipates. Thus, because consumer prices increased 5.4% last month, representing  the biggest monthly gain since August 2008, the economy might witness a sooner-than-expected hike in interest rates.

Because higher interest rates typically help banks generate higher interest income, investors expecting a rate hike will likely bet on bank stocks in the near- to midterm. As such, we think that SPDR S&P Bank ETF (KBE) and iShares U.S. Regional Banks ETF (IAT) could witness a solid rally.

SPDR S&P Bank ETF (KBE)

KBE represents the banking segment of the benchmark S&P Total Market Index. Its portfolio comprises major financial services and banking companies based in the United States that are Asset Management and Custody Banks, Diversified Banks, Regional Banks, Thrifts & Mortgage Finance institutions and Other Diversified Financial Services companies. KBE has 95 holdings (as of July 14), amounting to a $24.85 billion weighted average market capitalization. With $3.31 billion in assets under management, KBE’s top holdings are First Republic Bank, Signature Bank and SVB Financial Group.

The equal weighted open-ended fund closely tracks the S&P Banks Select Industry Index. KBE has a BBB MSCI ESG Rating, which indicates strong governance and low external social and environmental risks. The fund’s EPS is expected to rise 14.1% over the next three to five years.

KBE’s 0.35% expense ratio is significantly lower than the 0.87% category average. The ETF has gained 67.2% over the past year, and 24.1% year-to-date. It pays $1.14 as dividends annually, yielding 2.29% at its current NAV. Its four-year average dividend yield stood at 2.16%. Moreover, KBE’s dividends have increased at a 17.3% CAGR over the past three years.

KBE has an overall B rating, which equates to Buy in our proprietary POWR Ratings system. The ETF also has a B for Buy & Hold grade. Of  40 ETFs in the B-rated Financial Equities ETFs group, KBE is ranked #26. To see more of KBE’s POWR Ratings, click here.

iShares U.S. Regional Banks ETF (IAT)

IAT invests in small- and mid-cap regional banks based in the United States. The passively managed ETF aims to replicate the performance of the benchmark Dow Jones U.S. Select Regional Banks Index. IAT currently has 39 holdings (as of June 14). Its biggest holdings are PNC Financial Services Group Inc., US Bancorp and Trust Financial Corp, with  a combined 38.9% weighting. With $1.15 billion worth assets under management, IAT is currently trading at a 0.04% premium to its NAV.

IAT has an A MSCI ESG Fund Rating, which indicates strong management and sustainability. Its 0.42% expense ratio compares with the 0.87% industry average. Also, its 30-day SEC yield is 2.16%.

The ETF pays a $1.19 dividend annually, yielding 2.09% at  the current price. Its four-year average dividend yield stood at 2.43%. Furthermore,  IAT’s dividends have increased at a 13.3% rate per year over the past three years. IAT has gained 77.5% over the past year, and 62.5% over the past nine months.

IAT has an overall B rating, translating to Buy in our proprietary rating system. It has a B for Trade Grade and Buy & Hold Grade. IAT is ranked #30 in the Financial Equities ETFs industry.

In addition to the grades we’ve highlighted, click here to access IAT Rating for Peer Grade.

KBE shares were trading at $50.34 per share on Thursday morning, up $0.67 (+1.35%). Year-to-date, KBE has gained 21.68%, versus a 17.19% rise in the benchmark S&P 500 index during the same period.

About the Author: Aditi Ganguly

Aditi is an experienced content developer and financial writer who is passionate about helping investors understand the do’s and don'ts of investing. She has a keen interest in the stock market and has a fundamental approach when analyzing equities. More...

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