Financial Select Sector SPDR ETF: Investment Opportunity In Bank Stocks? (XLF, STI, MET, RBS, DB, HBC, RY)

bank1George Leong: The major bank stocks all closed off 2012 near their respective 52-week highs; and they’ve started 2013 with a bang. Driven by an improving banking industry that is assuming less risky businesses while shoring up their balance sheets and producing stronger units, the KBW Bank Index is up eight percent, outperforming both the S&P 500 and the Dow Jones.

The subprime credit crisis that surfaced in 2008 and drove the U.S. and the global economy into a recession was not what we wanted to see; but in some sort of twisted way, the events have led to an industry that has restructured the way banks do business—more specifically, the amount of risk that is assumed by a bank via sophisticated strategies. So far, this shift in structure, coined the “Volcker Rule” because it was set in place by economist and ex-Federal Reserve Chairman Paul Volcker, appears to be capping the number of speculative trades made by the banks, which is good.

Banks have altered the way they do business, and they’ve shown positive strides along the way.

In my view, the operating results have been fairly good, and this indicates that the banks will be able to grow their business volume across the board during the U.S. economic recovery.

Moreover, with the housing market and the U.S. economy continuing to improve, I feel bank stocks will also see some gains.

Most of the big banks have paid back part or all of their government loans. Overall, bank stocks are showing promise and delivering better results.

While risk surrounding the bank stocks has declined, there are still issues that could hamper the ability of bank stocks to deliver. According to Trepp, LLC, about one out of every eight banks failed the stress test without raising more capital. (Source: “Trepp Releases Updated Capital Adequacy Stress Test Report,” Business Wire, February 6, 2013.)

The chart of the Philadelphia KBW Bank Index shows the upward move of bank stocks from their 2011 bottom. Banks staged a nice rally, but they retrenched from March to May 2012 on the European bank concerns and Moody’s Investor Services’ downgrade of the sector. The group has since staged a rally back above the 50- and 200-day moving averages (MAs). There’s near-term topping on the charts, but a strong break could see more gains this year.

Bank Index Philadelphia Chart

Chart courtesy of

The Federal Reserve annual stress test in March 2012 showed 15 of the 19 U.S. big bank stocks passed the stress test, compared to 2009, when half of the big banks failed. The four stocks that failed the stress test were Citigroup, Inc. (NYSE:C), SunTrust Banks, Inc. (NYSE:STI), Ally Financial, and MetLife, Inc. (NYSE:MET).

According to Moody’s, the highest risk in banks is Bank of America Corporation (NYSE:BAC), Citigroup, Morgan Stanley (NYSE:MS), and The Royal Bank of Scotland Group plc (NYSE:RBS). The concern expressed is that some of the bank stocks are vulnerable to risk in the global financial markets. Here, we’re talking about the U.S. banks’ holdings in European banks and the excess trading risk assumed in trying to make profits for shareholders.

The second riskiest group of bank stocks comprises The Goldman Sachs Group, Inc. (NYSE:GS), Deutsche Bank Aktiengesellschaft (NYSE:DB), and Credit Suisse Group AG (NYSE:CS).

According to Moody’s, the most stable bank stocks include JPMorgan Chase & Co. (NYSE:JPM), HSBC Holdings plc (NYSE:HBC), and Royal Bank of Canada (NYSE:RY). In general, Canadian banks are quite strong and trade on the New York Stock Exchange (NYSE).

The bottom line is: in spite of the risk that still exists in this group, the climate for bank stocks is much better, and it’s worth a look.

This article is brought to you courtesy of George Leong from Profit Confidential.

Related ETF: Financial Select Sector SPDR ETF (NYSEARCA:XLF)

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