Does the prospect of higher rates make ASX 200 bank shares more attractive?

With higher interest rates banks can make larger profits from their loan books.

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The S&P/ASX 200 Index (ASX: XJO) has certainly had a good run over the past 12 months.

Despite yesterday’s pullback, the ASX 200 is up almost 10% since this time last year.

While few will complain about 10% annual returns, the ASX 200 banks, with the exception of Westpac Banking Corp (ASX: WBC), have all done much better.

While Westpac trailed the benchmark with a 7.5% gain over 12 months, National Australia Bank Ltd. (ASX: NAB) led the charge, gaining 25.7%.

The Commonwealth Bank of Australia (ASX: CBA) share price was the next best performer among the ASX 200 banks, gaining 18.2%. Coming in a close third, with a share price gain of 17.1% is Australia and New Zealand Banking Group Ltd (ASX: ANZ).

And don’t forget the franked dividends the banks offer. In that category, Westpac comes out ahead, paying a trailing dividend yield of 5.45%, fully franked.

That’s the 12 months gone by.

Looking ahead, with interest rates increasingly likely to rise internationally and Down Under, what might investors expect from the big banks?

Does the prospect of higher rates make ASX 200 bank shares more attractive?

With global central banks, including the Reserve Bank of Australia (RBA), often taking their lead from the US Federal Reserve, investors have been keeping a keen eye on the Fed.

And the Fed is looking ever more likely to raise rates as much as 3 times in 2022.

According to The Wall Street Journal, “Traders in interest-rate futures are pricing in a 71 per cent chance that the Fed will raise its short-term target rate from its range of 0 per cent to 0.25 per cent by the end of its March meeting.” That’s up from 32% just 1 month ago.

The yield on 10-year US Treasury notes has been trending higher and now tops 1.7%.

Rising interest rates are likely to change the playing field for numerous shares.

Growth shares, like many tech companies, could come under increased pressure as much of their earnings won’t be realised until well into the future. While other sectors, like financials and ASX 200 bank shares, could receive a welcome tailwind.

The market action in both the US and Australia yesterday offer some indication of what investors might expect from rising rates.

In the US, the tech-heavy Nasdaq has been sliding, while yesterday the big banks like Bank of America, Wells Fargo and Citigroup all gained some 2%.

Here in Australia, the ASX 200 sank 2.7% yesterday, while the S&P/ASX All Technology Index (ASX: XTX) fell a staggering 5.6%.

As for the ASX 200 bank shares?

ANZ closed flat yesterday; NAB gained a slender 0.04%; Westpac gained 0.2%; and the CBA share price also closed up 0.2%.

Advantage financials?

As the WSJ reports, Lars Skovgaard Andersen, investment strategist at Danske Bank Wealth Management “intends to target the broad market and European banks that stand to benefit when rates rise, rather than US tech.”

Closer to home, Saxo Capital Markets Australian market strategist, Jessica Amir said that interest rates were rising for the first time in a decade. According to the Australian, she said “this would help banks make bigger profits from mortgages”.

Baker Young’s managed portfolio analyst, Toby Grimm was also bullish on the overall outlook for ASX 200 bank shares. Atop his belief that Woolworths Group Ltd (ASX: WOW) is set to outperform, he said that the banks “should also be interesting”.

His leading option among the ASX 200 banks is CBA.

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The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has recommended Westpac Banking Corporation. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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