The Federal Reserve rate hike has finally kicked in, with FOMC officials on Dec. 14 raising the target for short-term interest rates by 0.25%, a much-anticipated move that has contributed to a wave of market optimism. Along with a strong dollar, and expectations of job creation and deregulation, there is a spirit of free market enterprise as businesses set their sights on bigger profit margins and fewer restrictions.
The economic forecast looks rosy for next year, and certain sectors, such as financials and especially the regional banks, will markedly benefit from the higher rate. But identifying opportunities for tactical trades with exchange-traded funds will, of course, still depend heavily on President-elect Donald Trump and the success of his policies, impacting everything from health care and interest rates to biotech and emerging markets.
Until then, moves in U.S. currency, small-cap performance, expectations of administration policies and other market shifts are presenting potential openings for bulls and bears alike as we head into the new year.
Here’s where we see the opportunities.
Even before the Fed’s Dec. 14 rate hike, the financial sector was pricing in a higher rate regime. Financials, specifically regional banks, benefit from a higher rate through an increase in net margins. Bank stocks got more of a boost as Fed Chair Janet Yellen not only raised the rate by 25 basis points, but also signaled officials expect three quarter-point rate increases next year, up from two mentioned in September.
Trump’s support for deregulation and lower taxes are expected to add to the good news for this sector. A less regulated market is a boon to financials, as lighter regulation reduces compliance and operational costs, and increases the creation of client-tailored products, such as structured products, as their restrictions ease.
Biotech will be a sector to watch in the short term for volatility traders. The healthcare sector was heavily impacted by Democratic candidate Hillary Clinton’s focus on curtailing the biotech drug pricing structure. Biotech now looks ready to play catch-up with sector stocks spiking nearly 10% a day after Trump’s election. As part of the interest rate-insensitive healthcare sector, biotech should benefit from the current market shift away from defensive, rate-sensitive sectors.
Generally, the recent GOP win is also a win for highly regulated industries, as deregulation will relieve some of their restrictions and bode well for these stocks.
With the expectation for a more aggressive rate-increase trend in the new year, we see interest rate-sensitive sectors continuing to underperform. Although utilities, real estate investment trusts (REITs) and staples have underperformed the market in the second half of the year as certainty of a rate rise grew, all of these sectors have rallied since the Fed’s increase.
Trump campaigned on a major push for fiscal spending, supporting stimulus in the form of a major infrastructure infusion. A fiscal expansion theme supports a curve steepening resulting in rate rise expectation.