The Financial Select Sector SPDR (NYSEArca: XLF) Vanguard Financials ETF(NYSEArca: VFH)and competing financial services exchange traded funds have been among the best-performing sector ETFs following the presidential election earlier this month.
Much of the enthusiasm for XLF and other bank ETFs is tied to the notion that a December rate hike by the Federal Reserve is, at this juncture, all but a foregone conclusion.
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.
Heading into this year, many market observers expected four Fed rate hikes, a number that subsequently dropped to two and now, in the eyes of some experts, zero. Higher interest rates would help widen the difference between what banks charge on loans and pay on deposits, which would boost earnings for the financial sector.
Related: Financial Sector ETFs Maintain Momentum
There is another important catalyst to consider for financial services stocks and ETFs: The potential for bullish earnings trends to emerge.
Keefe, Bruyette & Woods analysts “write that they expect although estimates haven’t moved much yet, analysts should begin to move their models higher in the next two or three weeks to account for higher interest rates and potentially less regulation,” reports Teresa Rivas for Barron’s.
Higher interest rates would help widen the difference between what banks charge on loans and pay on deposits, which would boost earnings for the financial sector. Regional banks are among the stocks most positively correlated to rising interest rates because higher rates improve net interest margins.
Related: Financial Sector ETFs Maintain Momentum
President-elect Donald Trump has said he would “dismantle” financial reform, or the Dodd-Frank financial reforms, that have caused big banks to take on increased capital requirements to obviate another depression event associated with high-risk debt. That rhetoric is seen as a boon for bank stocks and ETFs.
Still, investors should focus on earnings when it comes to XLF and friends.
“Our expectation is that earnings estimate revisions will continue to drive individual stock performance during the rest of the year, and that the bias of estimates will be upward. However, give the run in the stocks, we expect the coming weeks to be a time of sorting out appropriate relative values rather than a continued upward movement in share prices. As estimates adjust to a new environment so will share prices”>,” according to the KBW note posted by Barron’s.
For more information on the banking sector, visit our financial category.
Financial Select Sector SPDR (NYSEArca: XLF
