Daily Gains Letter

As Interest Rates Rise, These “Safe Havens” Will Do Well

By for Daily Gains Letter |

How to Take Advantage of Rising Interest RatesWith the Federal Reserve signaling its $85.0 billion-per-month quantitative easing policy may be coming to an end, many investors are scrambling, looking for places to invest.

The Fed cutting back on its monthly Treasury bond and mortgage-backed security purchases means demand will slide. And that will take the price of bonds with it, sending yields and interest rates higher.

The easy money may be coming to an end, but that doesn’t mean there aren’t safe havens out there for investors to take advantage of. All you need to do is find those equities that do well when interest rates rise.

Many investors believe that rising interest rates are a boon to the banking industry. But if short-term interest rates get too high, individuals with huge debt loads often end up defaulting—and that costs banks money.

Banks tend to make money when long-term rates rise faster than short-term rates. In that scenario, banks can borrow more cheaply from depositors and make more money from higher-interest loans.

It may not be as glamorous as investing in gold, platinum, or oil and gas, but one sector that looks like it could benefit from higher interest rates is life insurance. While the markets have been tanking on fears of stimulus easing, some insurance stocks have been surging.

That’s because bond yields are to life insurance companies what metal prices are to the mining industry. As a result, insurance companies are the one industry that actually thrives in an environment of rising interest rates.

That’s because insurance companies make money on the returns they earn on premiums from policyholders. Insurance companies don’t make as much in a low interest rate environment, because the bonds they hold as investments have miniscule returns.

For example, at the beginning of the year, a 10-year Treasury bond yielded just 1.8%, and in early May, it was down to 1.6%. But all of that changed on May 22, when the Federal Reserve hinted it might begin to taper off its quantitative easing policy, and it intensified on June 19, when the Fed said it was probably going to ease off on its monthly quantitative easing policy by the end of the year.

Over the following days, the prospect of losing easy money sent the 10-year Treasury yield soaring, touching 2.6% on Monday, June 24. The yield has retracted slightly, but it’s still at a robust 2.4%.

Life insurance companies have done well in light of the low interest rates and should benefit further as the interest rates rise. While only a starting point, a number of life insurance companies have been performing well in light of the recent actions of the Federal Reserve and escalating interest rates, including Cigna Corporation (NYSE/CI), WellPoint, Inc. (NYSE/WLP), and Aetna Inc. (NYSE/AET).

With stocks, bonds, and commodities getting hammered over fears that the Federal Reserve is going to begin easing its monetary stimulus, investors may want to turn their attention to one of the few areas thriving on the volatility of higher interest rates—life insurance companies.

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  • Tim Smith

    So what happens to all the bonds insurance companies hold that lose value in a rising rate environment and have to be marked to market? Good gravy..