Get Your Hooks in the Financial Patch

Monday marks the last day of the first quarter, and it has been an interesting opening setup for 2014. Indices should manage to post slight gains year to date, even as they turn in their worst quarterly performance since the last quarter of 2012.

Volatility is higher this year than it was in 2013, and momentum stocks and sectors took significant hits in March. I think the second quarter could continue to see the back-and-forth action investors experienced in the first quarter. Stock and sector allocation will be a key driver of overall portfolio performance.

Meanwhile, here's one widely held consensus (on the part of pundits) that did not play out in the first quarter: Interest rates, instead of rising as most had predicted, have fallen by a decent amount. But, as we get past the horrid winter conditions that much of the nation experienced in the first three months of the year, I believe economic readings will show some renewed strength -- and these stronger economic reports should result in higher interest rates in the second quarter

Those higher rates, in turn, should be good for the financial sector -- they are bound to bolster insurers' investment portfolios, as well as banks' net interest margins. As a result, I am currently upping my allocation to financials.

Here are a couple of new plays I'm looking to add soon.

Travelers (TRV) is just the type of boring insurance firm that should do well in the second quarter on higher interest rates, and the stock also offers an attractive valuation at the moment. Travelers is a leading provider of commercial property-liability and homeowners and auto insurance.

Analysts have been slow to realize Travelers earnings power -- yet, for six straight quarters now, the company has reported earnings that beat the consensus estimate by a minimum of 10%. At this point, analyst forecasts for both 2014 and 2015 have ticked up nicely over the past 90 days.

Travelers shares are cheap at under 9x trailing earnings and under 8x operating cash flow. The company also sports a strong balance sheet and pays a dividend that yields at around 2.4%. The company has also been active in buying back stock, having repurchased some $1 billion worth in the last reported quarter.

My second pick is Discover Financial Services (DFS) -- a stock that enjoyed a nice shout-out from Stephanie Link, co-portfolio manager of Action Alerts PLUS, earlier this month. I concur with her reasoning on the company's improving business fundamentals and valuation, and the company's shares trade at at just over 11.5x trailing earnings -- a substantial discount to those of such peers as American Express (AXP).

The company is seeing loan growth in the low-single digits, and that should accelerate as the economy improves. It is gaining wallet share from existing customers, and as a result of its partnership with eBay (EBAY) unit PayPal, the Discover credit card is now accepted by more than 1 million new merchant locations.

Discover has a net interest margin near 10% -- significantly above the average bank's rate of roughly 3%. The company also recently announced a 20% dividend hike, boosting the payout yield to 1.7%, and a $1.6 billion stock-repurchase plan that would retire more than 5% of the current share float at current prices.

Neither of these stocks is likely to provide the kinds of returns recently seen from such highfliers as Netflix (NFLX) or Amazon (AMZN). However, these firms are well-positioned to perform well for the rest of the year as they enjoy much lower volatility.

At the time of publication, Jensen had no positions in the stocks mentioned.