What is it?
The financial sector is populated by companies that provide financial services to both commercial and retail customers. Its primary contributors are banks, insurance companies, investment funds, and real estate firms – although we associate real estate with construction as a separate sector. Financials make up a large part of the global economy, contributing roughly 21% of GDP in the US and between 5-15% on average for other nations.
Why is it important?
Financial stocks make up one of the larger components of the S&P 500 index, occupying 13.7%. This gives them the power to move the entire index when their prices change dramatically. Understanding the current climate in the banking sector is always important, as its performance tends to affect the majority of sectors within the market. Financial institutions provide business and personal loans that drive consumption and growth in the economy. When the financial sector underperforms, it stunts the growth of small businesses, real estate, and the average consumer the most.
- Banks: Morgan Stanley, JP Morgan Chase, Goldman Sachs, Bank of America
- Investment funds: Black Rock, State Street, Northern Trust
- Insurance: Allstate, Travelers, AXA, Prudential
- iShares Global Financials ETF
- iShares US Financials ETF
- S&P 500 Financials ETF
When does it do well/badly?
The financial sector is very sensitive to the business cycle. In a rising market, financials tend to benefit from additional investments and do well. In a bull-market, companies look to expand and consumers invest and consume more, adding to the number of loans issued by financial institutions. Contrastingly, in a declining market, financials are often some of the hardest hit, as consumers retreat from investing and focus on necessities. The 2008 Financial Crisis has made investors very wary of investing in banks, so any signs of trouble can often lead to large sell-offs in financial stocks.
Why should I invest?
Financial stocks are extremely popular to hold in a portfolio, because they often offer attractive dividends which gives a good cash flow. As a basic necessity in everyday life, financial stocks (and banks in particular) fill an important societal need that will not go away any time soon. Financials perform exceptionally well and consistently during a bull-market, so incorporating them into your portfolio in the right environmental conditions is a must!