One of the primary reasons financial services stocks and bank ETFs rallied in the wake of President Trump’s 2016 election victory was speculation that he would try to ease the regulatory burden facing the sector, including a potential rollback of the 2010 Dodd-Frank legislation, which increased regulations on banks and financial services companies following the global financial crisis.

Inflows to popular ETFs, such as the SPDR S&P Bank ETF (NYSEArca: KBE) and the SPDR S&P Regional Banking ETF (NYSEArca: KRE), the largest regional bank exchange traded fund, suggest Congress is considering rolling back some Dodd-Frank provisions.

KBE and KRE “saw their biggest one-day inflows on record this week after senators passed a bill aimed at rolling back some the 2010 Dodd-Frank Act. The SPDR S&P Regional Banking ETF, ticker KRE, took in $606 million, while the SPDR S&P Bank ETF, ticker KBE, absorbed $323 million,” reports Bloomberg.

Rising interest rates are seen helping U.S. banks and the related ETFs. The Federal Reserve is expected to raise interest rates again this year after doing so three times in 2017. The financial services sector could be working its way into a period of long-term out-performance. The recent rally in the sector could still be in the early innings, according to some market observers.

Higher Interest Rates Benefit Banks

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.

“Dodd-Frank was designed to make banks safer after subprime mortgages brought down parts of the financial system,” according to Bloomberg. “Under the Senate proposal, small banks would be exempt from the Volcker Rule on trading for their own books, and would have fewer reporting requirements than larger lenders. However, the bill can’t become law unless the House of Representatives passes a similar measure.”

Efforts to scale back Dodd-Frank are viewed as more helpful to smaller banks, regional banks and trust banks than large- and mega-cap money center banks.

For more information on the financial sector, visit our financial category.

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.

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