Over the last few weeks we have seen treasury rates rise from historic lows as the markets have attempted to price in the Federal Reserves policy actions. While its been no secret that quantitative easing would eventually begin its taper, apparently the market had not yet priced in the slowdown.
While in a historical context interest rates are at very lows levels, rates have picked up steam lately. The 10-year and 30-year treasuries have moved quickly to the upside and currently sit at 2.52% and 3.56%, respectively. While rising interest rates may be painful for the housing recovery and consumer goods companies, the majority of the financial sector is poised to benefit. Quarter after quarter we witnessed our financial institutions report dismal net interest margins as a result of the low rate environment. As rates move higher these institutions will begin to see spreads widen, thus padding both the top and bottom lines. I would like to highlight three different financial institutions poised to benefit from rising interest rates.
Banking on Brokerage
Charles Schwab Corp (NYSE:SCHW), a leading brokerage firm, should benefit from rising margin levels in combination with rising interest rates. While we have seen volumes decline year after year, margin debt levels have yet again risen to historical highs. Last month, the NYSE reported its margin debt levels reached the previously unseen level of $384.4 billion in April, a 1.3% gain from the previous month, and a 29% rise from the same month last year. This level exceeds the previous high of $381.4 billion recorded near market highs back in June 2007. Typically, brokerage firms adjust base rates on margin loans as interest rates fluctuate. In the most recent 10-K filling I was able to find that the company grew its margin balance by 9% on a quarterly basis. As of that filling, the company held $11.4 billion in margin loans on the balance sheet. If interest rates continue higher, the company could indeed raise its borrowing rates in line with the increase, thus increasing revenues for the company. While its tough to predict the exact value of the increase due to a variety of unpredictable variables, I would expect the increase to be meaningful. Hopefully next quarter management discusses its plans in more detail.
APR Kings
While interest rates rise, American Express Company (NYSE:AXP), should reap the benefits of rising APR. Last week the average APR in the U.S. ticked up slightly to 14.96% amid rising credit quality. During normal economic conditions financial companies see delinquency rates between 3% and 5% of all card payments. However, American Express Company (NYSE:AXP) has done much better as of late with a minuscule 1.1% delinquency rate. The low rate can be attributed to borrowers better managing debt loads. Going forward, the company can take advantage by raising the APR on its cards, in-line with the broader interest rate increases. Say the company raises interest rates to the point where the delinquency rate rises to normal conditions, I would expect revenues to rise greatly. Again, I am interested to see what management is planning in regards to this matter. We should get updated guidance in the next quarter conference call–until then, I would use any broad market weakness to pick this company up. Shares have risen drastically already this year, but on a forward multiple basis the company remains cheap at only 15 times next years earnings.
Technology?
While Microsoft Corporation (NASDAQ:MSFT) may not be a financial institution in the company description, its balance sheet may tell you otherwise. Shareholders are sitting on $5.2 billion in cash and $69.2 billion in short term investments. Add those balances together and you get $74.4 billion in capital positioned to benefit from rising interest rates. Assume the average interest rate in which Microsoft Corporation (NASDAQ:MSFT) receives rises by 2% in line with the market. That’s an additional $1.5 billion per year that the company could put right back into shareholder pockets. While the company may be a dinosaur, it did grow revenues by 18% last quarter–not bad considering the company is trading at only 11 times next year earnings. Analysts are expecting 10% earnings growth this year while holding an average price target of $35.42.
Wrap-Up
While the Street may be screaming that the sky is falling, rising interest rates do bode well for select firms. Many financial institutions are well-positioned to grow revenues in line with the rising rates as net interest margins expand. Look at broad market weakness as an opportunity to pick these companies up on a discount.
The article Rising Rates Bode Well for These Firms originally appeared on Fool.com and is written by Nathaniel Matherson.
Nathaniel Matherson has no position in any stocks mentioned. The Motley Fool recommends American Express. The Motley Fool owns shares of Microsoft. Nathaniel is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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