Our Insights

About personal finance, investments and markets.
January 11, 2014

US Banks outperformed in 2013: implications for your portfolio in 2014

The US banking sector continues to outperform the broader equity markets. While the S&P500 rose by 29% year-to-date on a total-return basis including dividends, it was handily beaten by an even more impressive banking sector which returned nearly 35% including dividends. What does this imply for the US economy and how should investors position themselves for 2014?

US Banking Sector 2013

The key reason for the strong performance of the US banking sector is the steepening yield curve. Banks pay virtually nothing on deposits while charging a rate that is typically linked to treasuries on the loans they make. The steeper the curve, the wider the “margin”. Given the leverage inherent in the banking system, even a small margin increase materially improves the return on equity.

The steepening of the yield curve is driven by the improving data for the US economy. During 2013 we had improving US unemployment numbers, strong car and home sales growth and a lower-than-expected budget deficit.

Cumulative Bond Flow

There is an important message in the outperformance of the US banking sector for private investors going into 2014. Watch the interest-rate sensitive component of your portfolio. If the yield curve keeps steepening, most of the areas where investors piled in during 2008-2012 will face headwins. This is particularly true for bonds which have seen strong inflow in the last few years.

Many investors underestimate the risk of rising rates to their bond portfolio. German government bonds yield only 1.8% at the end of 2013, compared to more than 4% at the beginning of 2011. Even a small change in rates would leave investors exposed to significant book losses.

German Government Bond Losses

If you would like to know how to position yourself in a rising yield environment, please contact us on info@ipanema-capital.com

Please read our Terms of Use.