Buoyed by mostly positive news from the Federal Reserve’s stress tests on the 31 largest U.S. banks and ensuing excitement over increased dividends and share repurchase programs from those institutions, the Financial Select Sector SPDR (NYSEArca: XLF) surged almost 2.2% Thursday and is now clinging to a modest gain over the past week.
XLF is the financial services ETF that commands the most headlines, but with the sector sporting attractive valuations and looking like it is on the mend following some lethargy earlier in the year, investors may want to consider some other bank ETFs in addition to XLF.
“According to Erik Oja, an equity analyst for S&P Capital IQ, capital levels are high and growing, spurred on by Basel III requirements. The largest banks have been stockpiling cash and marketable securities to meet the additional liquidity coverage requirements. However, after passing the Fed’s latest stress tests yesterday the liquidity also cleared the way for announced share buybacks and common stock dividend increases for many banks,” said S&P Capital IQ in a new research note.
Alternative bank ETF ideas as suggested by S&P Capital IQ include the SPDR S&P Regional Banking ETF (NYSEArca: KRE), iShares U.S. Regional Banks ETF (NYSEArca: IAT) and the SPDR S&P Bank ETF (NYSEArca: KBE). [Bank ETFs Like Stress Test Results]
KRE is the largest regional bank ETF and as such is sensitive to fluctuations in interest rates. The ETF’s recent price action confirms as much. Since Feb. 2, 10-year Treasury yields are up 25.3%, a move that has helped KRE gain nearly 10%. Over that period, KRE has outpaced XLF by 310 basis points.
Reminding investors of just how sensitive regional banks are to interest rate changes are these statistics. When Treasury yields jumped in 2013, KRE surged 47.5%. Amid the 2014 yield retreat, the ETF rose just 1.8% while the S&P 500 climbed 13.5%. KRE’s holdings have an average beta of +0.44 to moves in the US 10 Year Treasury. [Regional Rebound Could Lift Bank ETFs]
“Meanwhile, Oja contends net interest margins will likely stabilize and widen later this year if the Federal Reserve (Fed) tries a 25 basis point rate hike. Banks have spent the last several years reorienting their balance sheets to be sensitive to the short end of the yield curve, and should benefit from a Fed rate hike,” according to S&P Capital IQ.
IAT is more of a play on super-regional banks, such as U.S. Bancorp (NYSE: USB), PNC Financial (NYSE: PNC) and BB&T (NYSE: BBT). However, that does not diminish the ETF’s potency as a play on recovering bank dividends.
Following the stress tests, BB&T, PNC and U.S. Bancorp announced dividend increases of 12.5%, 6% and 4%, respectively. IAT has slightly trailed KRE since Feb. 2.
KBE, the other SPDR ETF highlighted by S&P Capital IQ, has slightly outperformed its stablemate KRE over that period. KBE allocates the bulk of its weight to regional banks, but does feature decent exposure to money center goliaths like J.P. Morgan Chase (NYSE: JPM) and Wells Fargo (NYSE: WFC). [Revenue Growth Lifts Bank ETFs]
“Both KBE and KRE rank favorably for S&P Capital IQ STARS, Fair Value and Technicals. In addition, with tight $0.01 bid/ask spreads and modest 0.35% expense ratios, favorable cost factors contributes to the Overweight rankings,” said S&P Capital IQ.
Following the stress test, J.P. Morgan Chase and Wells Fargo boosted their dividends by 10% and 7%, respectively.
SPDR S&P Regional Banking ETF
Todd Shriber owns shares of XLF.