RISING BOND YIELDS BOOST INSURERS WHILE HURTING REITS AND OTHER DIVIDEND PAYERS -- LINCOLN NATIONAL, METLIFE, AND PRUDENTIAL RISE ON STRONG EARNNGS -- RISING BOND YIELDS ARE HAVING A NEGATIVE IMPACT ON STOCK INDEXES WITH MOST SECTORS IN THE RED
LIFE INSURERS LEAD FINANCIALS HIGHER ... Rising bond yields continue to give a boost to financial stocks like life insurers. Bear in mind that premium income in insurance stocks is invested mostly in fixed income markets. Higher bond yields mean higher income. Life insurers are leading the financial sector higher today. Several of the big life insurers are seeing nice gains after beating earnings estimates. Chart 1 shows the Dow Jones US Life Insurance Index ($DJUSIL) climbing more than 2% today and nearing a new 2016 high. The index is in a clear uptrend, as is its relative strength ratio (top of chart). Several individual stocks are already hitting new highs.
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Chart 1
LINCOLN NATIONAL, PRUDENTIAL, AND METLIFE HIT NEW HIGHS ... Chart 2 shows Lincoln National (LNC) surging 6% to the highest level since last December. Chart 3 shows Prudential Financial (PRU) already exceeding its late 2015 high. Chart 4 shows Metlife (MET) touching a new 2016 high as well. The first two are in clear uptrends. Metlife isn't far behind. The blue circles also mark the spot where their blue 50-day averages crossed over their red 200-day lines, which is characteristic of strong uptrends. That's also a vote for higher bond yields.
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Chart 2
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Chart 3
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Chart 4
RISING RATES FAVOR INSURERS OVER REITS... Rising bond yields since midyear have contributed to a sector rotation into financial stocks that benefit from higher yields (like banks and insurers) and out of dividend paying stocks like staples, telecom, utilities, and REITs. I mentioned in a recent message that the financial sector was getting an added boost from the separation of REITs from financials into a separate sector. Since midyear when bond yields started rising, banks and insurers have each gained 14% versus a -10% drop in REITs. Dividend paying stocks lose favor when yields are rising. At the same time, utilities and telecom stocks dropped -7% and -10% respectively. Staples lost -7%. To put that in visual terms, Chart 5 plots a ratio of the Dow Jones Life Insurance Index divided by the Dow Jones REIT ETF (RWR). The ratio has turned up in favor of life insurers in decisive fashion. The same is true of the financial sector versus dividend paying stocks in general. That's another sign that investors are preparing for higher bond yields.
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Chart 5
RISING RATES ARE WEIGHING ON STOCKS IN GENERAL ... There's good and bad news in the prospect for higher bond yields. The good news is that it favors financial stocks. To the extent that rising rates are also hinting at higher inflation, it may also be good for commodity related stocks like energy and materials. The bad news is that rising rates are bad for dividend payers, and possibly even consumer discretionary stocks that are hurt by rising consumer prices. Which helps explain why stocks have been basically flat since midyear. More groups have been falling than rising. Since midyear, only three sectors are in the black: technology (+8%), financials (+6%), and industrials (+2%). Energy and materials are basically flat. All the rest are in the red. That's three up, two unchanged, and seven down (counting telecom). Combined losses in the four dividend paying groups (and healthcare) are bigger than gains in financials and technology (with tech turning down this month). That makes for a flat market with a downside bias. For the market to make any upward progress, either the more economically stocks need to strengthen and/or the dividend payers need to stop falling. That leads to a couple of possible conclusions. First, the net effect of rising bond yields has been negative for major stock indexes. That calls for a more cautious stance. Beneath the surface, however, money is rotating into stocks that should benefit from rising yields and higher inflation. That may offer a way to take advantage of the current situation. Chart 6 shows rising relative strength lines for stock ETFs tied to energy (red) materials (blue), and financials (green). Traders are also buying put insurance (volatility) to hedge against possible stock losses.
Chart 6
VIX INDEX IS MOVING OVER 20... Pre-election jitters (and prospects for a December rate hike) are pushing stock prices lower and volatility higher. Chart 7 shows the CBOE Volatillity (VIX) Index trading above its September intra-day peak at 20.51 to the highest level since the Brexit vote in June. Closes above 20 are usually a caution sign that stocks are vulnerable to further losses. That's helping push the S&P 500 lower. Chart 8 shows the S&P 500 heading down for test of its 200-day moving average (red arrow). If that doesn't hold, next important chart support is near its June low (or possibly the upward gap formed shortly after the Brexit bottom). Volatility is likely to stay elevated until the election results are in and investors have had a chance to think things over.
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Chart 7
