In her speech at Jackson Hole on Friday, Fed chairwoman Janet Yellen indicated that the possibility of a rate hike has increased “in recent months” with the U.S. economy showing signs of improvement. Though stock markets declined following Yellen’s speech last Friday, financial sectors registered gains on the day on rising prospects of a rate hike by the end of this year.

Yellen’s Speech Fuels Rate Hike Speculations

Though the GDP growth rate in the second quarter was revised downward, as per the “second estimate” of the Bureau of Economic Analysis, the Fed chair indicated that a rate hike may occur in the coming months. Strong labor market conditions and an improving outlook for economic activity and inflation rate may lead the Fed to consider a hike in rates. Yellen said: “In light of the continued solid performance of the labor market and our outlook for economic activity and inflation, I believe the case for an increase in the federal funds rate has strengthened in recent months.”

She also stated that the central bank “expects moderate growth in real gross domestic product, additional strengthening in the labor market, and inflation rising to 2% over the next few years…Based on this economic outlook, the [Fed] continues to anticipate gradual increases in the federal funds rate will be appropriate over time.” Yellen also added: “While economic growth has not been rapid, it has been sufficient to generate further improvement in the labor market.” These have raised the possibility of a rate hike (read: Treasury Bond ETFs in Focus on Rising Rate Hike Prospects).

Though the chances of it happening in next month’s policy meeting are still low, an end of the year hike seems likely. According to The Wall Street Journal, probabilities for a hike in September and by the end of 2016 now stand at 24% and 57%, respectively.

Other Fed Officials Also Indicate a Hike

Recently, Fed’s vice chair Stanley Fisher, New York Fed President William Dudley, San Francisco Fed President John Williams and Atlanta Fed President Dennis Lockhart indicated that the central bank may consider raising key interest rate in the coming months. Stanley Fischer recently suggested that the Fed is approaching its goals of “maximum sustainable employment and an inflation rate of 2%,” indicating that he is in favor of hiking interest rate this year (read: Hawkish Fed Vice Chairman Adds Strength to These ETFs).

Moreover, John Williams said that it is appropriate “to get back to a pace of gradual rate increases, preferably sooner rather than later” as the domestic economy continues to show improvements. Separately, William Dudley and Dennis Lockhart also remain hawkish about a hike by December. While Lockhart said that “at least one increase of the policy rate could be appropriate later this year,” Dudley indicated that the rate hike in September’s policy meeting is “possible” as he expects the economy to grow at stronger pace in the second half of the year than the first half (read: ETFs to Watch as Fed Members Indicate Rate Hike in September).

3 Financial ETFs in Focus

The financial sector is considered to be a major beneficiary of a rising interest rates environment. This is because the steepening yield curve tends to bolster profits for banks, insurance companies, discount brokerage firms and asset managers. In this context, we have highlighted three financial ETFs that are poised to be on investors’ radar in the days ahead and have the potential to gain from a rising rate scenario.

Financial Select Sector SPDR ETF (XLF Quick QuoteXLF - Free Report)

This is by far the most popular financial ETF in the space with AUM of $15.7 billion and an average daily volume of over 42.7 million shares. The fund follows the Financial Select Sector Index, holding 95 stocks in its basket. It is heavily concentrated on the top 10 holdings, which collectively make up for nearly 45.2% of the portfolio. In terms of industrial exposure, banks take the top spot at 34.1% while REITs, insurance, diversified financial services and capital markets make up for double-digit exposure each. The fund charges 14 bps in annual fees and has added 2% over the past one-month period. XLF has a Zacks ETF Rank #3 (Hold) with a Medium risk outlook (read: Regional Bank ETFs: What Investors Need to Know).

Vanguard Financials ETF (VFH Quick QuoteVFH - Free Report)

This fund manages nearly $3.7 billion in its asset base and provides exposure to a basket of 569 stocks by tracking the MSCI US Investable Market Financials 25/50 Index. The product sees good volume of around 467,000 shares and charges 10 bps in annual fees. It allocates 31.7% in its top ten holdings. Banks account for nearly one-third of the portfolio, followed by REITs (25%) and insurance (17%). The fund gained 1.8% over the past one-month time frame and also has a Zacks ETF Rank #3 with a Medium risk outlook.

SPDR S&P Bank ETF (KBE Quick QuoteKBE - Free Report)

This product follows the S&P Banks Select Industry Index and holds 63 stocks in its basket, which is pretty spread out across components with none holding more than 2.8% of the assets. Regional banks take the top spot at 71.1% from an industrial look while diversified banks (15.4%) takes the next spot. KBE has amassed $2.4 billion in its asset base and trades in a solid daily volume of about 2 million shares per day on average. It charges an annual fee of 35 bps from investors and is up nearly 4.7% over the past one-month period. KBE has a Zacks ETF Rank #3 with a High risk outlook.

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