Financial services exchange traded funds, including the Financial Select Sector SPDR (NYSEArca: XLF) and the SPDR S&P Bank ETF (NYSEArca: KBE), have not been investor favorites this year. With U.S. interest rates remaining low and the Federal Reserve seemingly not on course to do anything about that anytime soon, pressure remains on the S&P 500’s second-largest sector allocation.
Said another way, one the primary catalysts that previously lured investors to bank ETFs, that being speculation of higher interest rates, is largely off the table. With a steepening yield curve, or wider spread between short- and long-term Treasuries, banks could experience improved net interest margins or improved profitability as the firms borrow short and lend long.
However, there are some signs that traders are nibbling at bank ETFs. The financial sector received a boost from Presidential candidate Donald Trump after he proposed dismantling nearly all of Dodd-Frank, the package of financial reforms placed after the global financial crisis. However, the Fed has proved uncooperative when it comes to boosting rates and the latest FOMC minutes reveal the central bank’s concerns about the labor market, decreasing the likelihood of near-term rate hikes.
“In the past week I have seen multiple large January 2018 out of the money call purchases across the Financial sector, looking to take advantage of the cheapness of upside calls (skew). This usually occurs when smart money is positioning for a trend move. Another potential factor for outperformance is that in the later innings of a bull market, and we clearly are in one of the longer ones right now, there will be a natural rotation to value from growth, which the Banks offer,” according to See It Market.[related_stories]