It was not supposed to be this way this year for regional bank equities and the corresponding exchange traded funds. Amid expectations of multiple interest rate hikes by the Federal Reserve, regional bank stocks and ETFs surged following Election Day.
The Fed has done its job, boosting rates three times since Election Day, but regional bank ETFs are disappointing investors in epic fashion. For example, the SPDR S&P Regional Banking ETF (NYSEArca: KRE), the largest regional bank ETF, is down almost 7% year-to-date.
KRE and rival regional bank ETFs were banking on higher interest rates to boost their fortunes. 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.
With bond prices rising, meaning yields are falling, ETFs such as KRE are under pressure. The iShares 20+ Year Treasury Bond ETF (NYSEArca: TLT) is up 7%, underscoring the inverse correlation between longer-dated bonds and regional bank equities.
“Yields are pressing lower, and that’s taking that net interest margin earning capability away from the regionals,” Todd Gordon of TradingAnalysis.com said in an interview with CNBC.