June 30 (Bloomberg) -- Financial stocks are poised to keep rising worldwide after posting this quarter’s best performance, according to Jeffrey Palma, a global strategist at UBS AG.

The industry stands to benefit from “a much improved backdrop,” Palma wrote yesterday in a report. He recommended that investors increase their percentage of assets in financials to a “modest overweight” relative to benchmark indexes. They had been “neutral.”

As the CHART OF THE DAY shows, financials are headed for the second quarter’s biggest gain among the 10 main industry groups in the MSCI World Index. They last set the pace in the second quarter of 2003, according to data compiled by Bloomberg. The chart has the MSCI World Financials Index’s quarterly rankings and percentage moves during the past six years, including this quarter’s gain through yesterday.

Relatively steep yield curves globally will help financial companies lift earnings, Palma wrote. The gap between yields on two-year and 10-year U.S. Treasury notes reached 2.76 percentage points, a record, on May 27. Falling loan-loss provisions and rising asset values, including share prices, may also lead to higher profits, the report said.

“There is still room for profitability to recover” even if the industry’s return on equity stays well below its 16 percent in 2007, Palma wrote. He favors banks in Australia, Canada and emerging markets.

Financials amount to 20 percent of the MSCI World Index’s value, more than any other industry group, according to data compiled by Bloomberg.

(To save a copy of the chart, click here.)

To contact the reporter on this story: David Wilson in New York at dwilson@bloomberg.net

Last Updated: June 30, 2009 10:48 EDT