Best Stocks and Sectors for Rising Interest Rates

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What are the best investments when interest rates are rising? Market timing is challenging at any point in time, but there are some logical moves traders and investors can make to invest in the best stock funds and sectors in a rising interest rate environment.

When interest rates are at or near historical lows, a wise investment move is to prepare for rising interest rates, followed by a final move upward for stocks before a decline (bear market) ensues. Although the economy may be moderately healthy when rates begin rising, rising rates signal the beginning of the end of an economic cycle.

A tactical and balanced investment approach when interest rates are rising is to stay invested to take advantage of late-stage positive momentum, but also prepare for harder times that are lurking around the corner. Take a look at the best stock funds and stock sectors for rising interest rates.

Best Stock Funds for Rising Interest Rates

If you choose to invest in mutual funds during periods of rising rates, you have to know which mutual fund categories can work for you.

One such category is growth stock funds. These mutual funds are focused on growth stocks, which are stocks with strong projected growth and attractive return on the investor's equity. The best time to invest in growth stocks is typically when times are good, during the latter (mature) stages of an economic cycle.

Times of rapid growth often coincide with rising interest rates and a momentum investing strategy takes advantage of this. For example, in 2007, the economy was growing rapidly and most market indexes had reached all-time highs. It was at this time that growth stocks dominated across all capitalization—large-cap stocks, mid-cap stocks and small-cap stocks. Note that 2007 was the year prior to The Great Recession of 2008, which ended the cycle.

Keep in mind that growth stocks and growth stock mutual funds often see bigger declines than the broader market once a bear market correction begins.

Best Stock Sectors for Rising Interest Rates

When interest rates are on the rise, the economy is typically nearing a peak. This is because the Federal Reserve raises rates when the economy appears to be growing too quickly and thus inflation is a concern.

Those who aim to time the market with sectors will have the goal of capturing positive returns on the upside while preparing to protect against harder declines when the market turns down.

Therefore traders and investors may consider sectors that tend to perform best (or fall in price the least) when the market and economy head downward. These can be considered defensive investment types:

  • Consumer staples (non-cyclicals): Although consumer discretionary (cyclical) stocks will typically perform best in the early stages of rising interest rates, the non-cyclical stocks can be a good idea before recession hits, which is difficult to forecast. People still need to buy their groceries and buy products for daily living when a recession arrives.
  • Health care: Similar to staples, consumers still need to buy their medicine and go to the doctor in both good times and bad. Health sector mutual funds and ETFs can be smart holdings during a rising rate environment.
  • Gold: When traders and investors anticipate an economic slowdown, they tend to move into funds, such as gold funds and ETFs, that invest in real, physical asset types. Gold is not a sector but it is an asset that can do well in uncertain times and falling markets.

The chart below shows the gold fixing price per troy ounce from 2000 through today.

The Bottom Line

Even though you are striving to make smart purchases, you must still use caution. Be aware that market timing is not a good idea for the vast majority of investors. However, you can still incorporate some of these ideas into your portfolio construction for purposes of diversification.

The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.