While a rising interest rate environment will help banks’ margins, financial sector exchange traded funds may continue to be pressured by losses on loans to beleaguered energy companies.
The financial sector is beginning to turnaround with the Financial Select Sector SPDR (NYSEArca: XLF) up 11.5%, iShares U.S. Financials ETF (NYSEArca: IYF) up 11.2% and Vanguard Financials ETF (NYSEArca: VFH) up 11.6% over the past three months.
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However, financial investors should keep expectations grounded. Wells Fargo (NYSE: WFC) has told investors to brace for more losses on loans to energy companies, reports Jon Marino for CNBC.
Consequently, the bank will continue to raise its reserves to offset those losses, diminishing cash available to be deployed elsewhere. Wells Fargo also anticipate further reserves may be required to offset additional losses.
“We built our reserve in the first quarter” correlated with rising stress in the energy sector, Chief Financial Officer John Shrewsberry said.
[related_stories]Almost 70% of the bank’s energy-sector borrowers experienced a drop in lines of credit, Shrewsberry said. Analysts have also expressed concern over energy lending portfolios.
“We still continue to believe that energy exposure is a major overhang on the shares of Wells Fargo, despite the recent increase in the price of oil,” Keefe, Bruyette & Woods analysts said in a note. “[T]here is a fear in the market that bankruptcies and restructuring in the energy sector will increase and Wells may be disproportionately affected by the increase given the growth the company saw within middle market energy credits.”
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WFC is among the biggest components in the financial sector ETFs, accounting for 7.9% of XLF’s underlying portfolio, 5.9% of IYF and 6.4% of VFH.
Nevertheless, some see light at the end of the tunnel as oil prices rebounded in recent weeks.
“Exposure to the energy sector is considerable,” Credit Suisse analysts wrote in a recent report, adding “this we believe to be a manageable risk.”
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Financial Select Sector SPDR