Did you see the 2012 movie “Trouble with the Curve”? If you’re a baseball enthusiast, a Clint Eastwood/Amy Adams fan, or just someone who likes a touching family drama, I highly recommend it.
The title refers to a baseball prospect who some scouts rank highly … but who Eastwood’s character (correctly) figures out can’t hit curve balls effectively. The prospect turns out to be a bust.
When it comes to the stock market, though, that title might apply better to banks. Investors have dog-piled into banks in the month of August amid increasing chatter of potential Federal Reserve rate hikes. The Financial Select Sector SPDR Fund (XLF) gained around 3.8%, while the interest rate-sensitive Utilities Select Sector SPDR Fund (XLU) dropped 5.8%.
The oft-repeated mantra on CNBC is that rate hikes are supposedly good for bank profits.
But there’s just one problem: It’s not whether rates rise or fall that truly matters for banks’ core lending and investing profitability. It’s HOW they move.
|Don’t be fooled by the banks.|
Banks like a steep yield curve. That’s because they make money by borrowing cheap funds from depositors or bond buyers at low short-term rates, then turn around and invest or lend that money at higher long-term rates. The wider the spread — or difference between the two — the better it is for banks.
You get a steep curve when all rates rise, but long-term rates rise faster and further than short-term rates. Or when all rates fall, short-term rates drop faster and further than long-term ones. Yet that isn’t what’s happening at all.
Take a look at this updated version of a chart I first shared with you last December. It shows the difference between 2-year yields and 10-year yields, a common measure of the steepness of the yield curve.
You can clearly see that the curve isn’t steepening at all. It’s flattening — and flattening massively. The 2-10 spread just sank to 0.75%, or 75 basis points, this week. That’s the lowest since way back to November 2007. The spreads between 2s and 30s, and 5s and 30s, have likewise collapsed to multi-year lows.
There’s a lot going on in the next few weeks. We have a G-20 summit, central bank policy meetings in Europe, the U.K., the U.S., and Japan, corporate earnings updates, and more. The markets could be in for one heck of a roller-coaster ride as a result.
But when I look at what’s happening, I can’t help but ask: Why would you want to own banks here?
I’d rather you stick with the kinds of stocks and other investments I recommend in my Safe Money Report. They’re tailor-made for this kind of turbulent environment, and they don’t come with the kinds of built-in curve risk that most financials do. Just give my staff a call at 800-291-8545 or click here to get on board.
Until next time,