Interest rates are rising and the sector’s first-quarter earnings were mostly impressive, but financial services stocks and the related exchange traded funds are still struggling on a year-to-date basis.
For example, the Financial Select Sector SPDR (NYSEArca: XLF), the largest exchange traded fund tracking the financial services sector, entered Monday with a year-to-date loss of more than 2%.
Earlier this year, financials were also propped up by a rise in bond yields as higher interest rates typically widen the margin spread between bank loans and deposits. The spreads will further widen as the Federal Reserve has stated its intentions to raise interest rates in response to economic growth and rising inflation. Still, earnings season has not been the catalyst some expected for the sector.
The upcoming Comprehensive Capital Analysis and Review (CCAR) by the Federal Reserve could be a catalyst to spark bank stocks and ETFs.
Goldman Sachs’ David Kostin “writes that a back-up in bond yields will benefit banks, and that with the annual Comprehensive Capital Analysis and Review (CCAR) results to be released next month, he expects ‘the median firm to be cleared to return 20% more capital to shareholders,’” reports Teresa Rivas for Barron’s.
Strong Capital Levels
Capital levels at major U.S. banks are viewed as solid. Additionally, the Trump Administration’s tax reform effort is seen as a potential catalyst for the financial services sector, but it remains to be seen if that effort will come to life. Some industry observers expect the tax reform would help banks boost earnings in significant fashion.
In recent years, some major XLF components have steadily raised dividends after paring payouts during the global financial crisis. However, XLF yields just 1.59%, implying significant room for dividend growth going forward.
“Add to that strong M&A activity, an increase in net interest margins, and loan growth, and he (Kostin) sees plenty of upside ahead of shares,” according to Barron’s.
Deregulation could also help the financial sector improve their margins. President Donald Trump has shown its eagerness in cutting back the red tape and remove some of the post-financial crisis regulations that has stifled the industry.
For more information on the financial sector, visit our financial category.