By The ETF Professor
After the Federal Reserve said Wednesday that its $85 billion in monthly bond purchases will remain in place, U.S. equity markets soared to new record highs.
Using one of those nifty heat maps that are found in various places online, investors would have seen a sea of green.
There were some red spots on those heat maps, too, and not just among inverse and volatility ETFs. Finding sector ETFs that slumped Wednesday was not a difficult task because they stuck out like sore thumbs. Wednesday's tales of woe for sector ETFs were easily spotted because they were the funds that had been highlighted as beneficiaries of a rising interest rate environment, something that should go by the wayside with tapering off the table.
Sector ETFs that have reacted poorly to the no tapering news include regional bank and insurance funds, two sub-industries that had rallied as 10-year Treasury yields surged almost 41 percent from May 22 through September 17.
The SPDR S&P Insurance ETF (KIE) and the iShares U.S. Insurance ETF (IAK) are up 27.4 percent and 29.4 percent year-to-date, respectively. In a no tapering world, however, further upside for these ETFs could be limited, particularly if Treasury yields decline as expected.
Low interest rates pressure net interest income for insurance providers, so it was not surprising to see KIE and IAK soar as rates rose. Life insurance providers, many of which dot the rosters of ETFs like KIE and IAK, are prosaic businesses.
They take in cash from policyholders premiums, distribute what needs to be paid and invest the rest. Higher interest rates and bond yields would have made the companies more profitable for the simple reason that they would have earned more on their excess cash, as Barron's reports.
KIE is an equal-weight ETF so it is not excessively allocated to any single stock. In fact, Lincoln National (LNC) is the fund's largest holding with a weight of just 2.54 percent. However, property and casualty and life and health insurance providers combine for almost 62 percent of the ETF's weight.
IAK may be even more vulnerable as interest rates rise. That ETF, the smaller of the two mentioned here, allocates over 83 percent of its combined weight to property and casualty and life insurance providers. For example, MetLife (MET) and Prudential (PRU) are IAK's second- and third-largest holdings, combining for 16 percent of the ETF's weight. High-flying American International Group (AIG), which does provide life insurance, is IAK's largest holding at 12.5 percent.
All of those stocks were lower yesterday with MetLife the worst offender with a 3.1 percent loss. Lincoln National, KIE's top holding, was down 4.2 percent as of yesterday afternoon. Torchmark (TMK), another KIE top-10 holding and a Warren Buffett favorite, was lower by 0.7 percent.
Bottom line: Declining Treasury yields should benefit a plethora of sector ETFs, just not insurance funds.
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