ETF Trends
ETF Trends

The Financial Select Sector SPDR (NYSEArca: XLF) and rival financial services exchange traded funds are receiving increased positive attention as advisors and investors come to grips with the fact that the Federal Reserve is likely to raise interest rates next month.

Previously, the Federal Reserve’s decision to hold off on an interest rate hike, ongoing economic weakness and concerns over trading revenues have weighed on the financial sector’s outlook. The Fed’s prior reluctance to raise rates has been a drag on bank stocks and ETFs this year, making XLF a laggard relative to the S&P 500. Some technical analysts believe bank stocks are poised to shed their laggard ways.

“You could do a lot worse than the financials; in fact it’s hard to do much better in this environment,” said Evercore ISI’s head of technical analysis, Rich Ross on CNBC’s “Trading Nation, reports CNBC.

When it comes to higher interest rates bolstering financial services ETFs such as XLF, the good news is that the number of traders betting that the Fed will boost borrowing costs following its December meeting has climbed in recent days.

One point of attraction for XLF and rival financial services ETFs has been the discounted valuations of big bank stocks. However, the cheapness of U.S. banks belies the strength of the financial sector. Over few years, banks have shed unprofitable businesses and assets while bulking up capital to return some to shareholders through stock buybacks and dividends, the Wall Street Journal reports.

Another sign that cements the notion that investors are preparing for higher borrowing costs is the price action in the SPDR S&P Regional Banking ETF (NYSEArca: KRE). All KRE, the largest regional bank ETF has done over the past month is surge 7.5%.

A rising interest rate environment will throw a wrench into the financial markets. Nevertheless, bank-related exchange traded funds could weather the storm as financial firms have positioned ahead of the potential rate changes. KRE’s sensitivity to interest rates is well known. The ETF rose just 2% last year after surging 47% in 2013 when yields spiked. KRE’s holdings have an average beta of +0.44 to moves in the US 10 Year Treasury. [Look to Bank ETFs in a Rising Rate Environment]

“Ross said the financials sector on the whole has been “under-loved, under-owned and over-regulated,” but he said those characteristics could change as expectations for a rate hike increase,” adds CNBC.

Financial Select Sector SPDR

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.