ETF Trends
ETF Trends

Although it has rallied off its post-Brexit lows, the iShares MSCI Europe Financials ETF (NYSEArca: EUFN) is still down more than 16% year-to-date. Now, some market observers see more problems looming for European banks.

Market observers have warned that the ongoing monetary polices and depressed rates would weigh on banks’ bottom line as firms would find it hard to make money with a flat yield curve – banks borrow short-term and lend long-term. However, European growth is picking up, which could trigger greater demand for loans.

Related: Europe ETFs Are Cheap Long-Term Buys

EUFN has some advantages, namely no exposure to Greece and that it is not dedicated Eurozone fund as British and Swiss stocks combine for over 40% of the fund’s weight. However, Italy is acting as a drag on the ETF. In Italy, regulators are currently working to configure a bad debt company of sorts to help Italian banks deal with a rising non-performing loan problem.

Italian banks have been under pressure to sell assets to support their troubled balance sheets. Italy’s fragile banking sector, the largest sector allocation in EWI, is in focus as global market participants fret about Brexit’s impact on Italy’s banks. The Italian government has been under pressure to calm concerns over its ailing banking system, which underperformed in the European Central Bank’s 2014 financial stress test and is holding €360 billion, or $410.5 billion, in bad loans.

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Last year, reforms to Italy’s banking sector were seen as a potential driver of improved equity market performance. Specifically, the reforms would turn these types of banks into possible takeover targets almost instantly. For instance, the new rules could be a catalyst for a potential merger between UBI Banca and Banca Monte dei Paschi di Siena.

Related: Rome Extends Italy Banks, ETFs a Helping Hand

Negative interest rates in the Eurozone and in other European countries are another problem for EUFN’s holdings.

“In short, customers who hold money at banks are slowly beginning to get squeezed and charged fees. What does this mean? To me, I feel it’s going to be negative on the banks and their share prices as investor slowly move away from those banks and/or spread their money to other asset classes to avoid paying interest to a bank to hold their money,” according to ETF Daily News.

Investors can play further weakness in EUFN and European banking names with the new Direxion Daily European Financials Bear 1X Shares (EUFS), which debuted earlier this month. EUFS is an inverse though not leveraged ETF.

iShares MSCI Europe Financials ETF

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.