Eric Dutram: The financial sector which is said to be the leading indicator of the overall market trend has been lately exhibiting a bullish sentiment. In fact the recent rally in the equity market is mostly attributable to the performance of banking stocks. The possible driver of the strong performance of the sector could be strength in earnings of the majority of banking stocks.
After posting poor results in the second quarter last year, bank stocks tapped the growth momentum in the third quarter. In the third quarter, banks reported solid growth in profits not seen in the last six years. Profits surged nearly 7% in the said quarter.
Investors should note that the banking sector has proven to be a good investment opportunity this earnings season as well. The sector could maintain its relative strength attributable to strong banking numbers from most of the banking stocks.
Big names like Goldman and JP Morgan Chase reported strong fourth quarter earnings while Bank of America and Citigroup were found to be weighed down by settlements and steep legal expenses. Investors should further note that after three years the rise in profits is principally from traditional sources of revenue rather than from release of funds reserved for bad loans.
The last few sessions actually saw the banking sector ETFs on the verge of a breakout. If the numbers from the banks continue to be strong these ETFs may breakout yet again forming new highs. This can only bode well for the market overall (Three Financial ETFs Outperforming XLF).
A Glimpse of the Banking Sector in 2013
Progress seen in the past one year gives a clear growth indication for the U.S. banking sector. Besides contraction in provisions for credit losses and cost containment, a marked recovery in the equity markets and consequent revenue growth led most of the banks to report higher-than-expected earnings. Expanding consumer credit and overall improvement in lending activity made it easy for the banks to sustain the improvement.
In fact U.S. banks lare poised for further growth in 2013 with uninterrupted expense control, sound balance sheets, an uptick in mortgage activity and lesser credit loss provisions (Banking ETFs 101).
Moreover, a favorable equity and asset market backdrop, progressive housing sector and an accommodative monetary policy are expected to make the road to growth smoother.
However, it should also be noted that though improved economic data such as higher consumer spending and gross domestic product (GDP), improving housing market and declining unemployment rate point towards optimism, a paltry interest-rate environment is disturbing for the sector.
Given the strong earnings performance in the last reported quarter and the upswing in the market in 2013, investors may well want to capitalize on the positive sentiment driving Financials.
In order to play this segment of the market, we have briefly highlighted a few ETFs that give exposure to banking stocks.
SPDR S&P Bank ETF (NYSEARCA:KBE)
KBE is an SPDR ETF offering a narrow exposure to 42 banking stocks. The fund manages and asset base of $1.9 billion and provides liquidity to investors as indicated by its trading volume of more than 1 million shares a day. It charges a fee of 35 basis points on an annual basis.
Among individual holdings, Popular Inc, Svb Finl Group and Comerica Inc occupy the top three positions in the fund, while the top ten holdings together get a share of 27.1%
The fund has been a good performer in 2012 returning 22.7% to investors while strong fourth quarter earnings provided a nice boost to the ETF as indicated by the year-to-date gains of 9.5%.
PowerShares Dynamic Banking ETF (NYSEARCA:PJB)
PJB selects the stocks based on various fundamental factors which discount their share price performance, management quality, acceleration in earnings as well as near-term market sentiments measured as market momentum.
This results in a portfolio with asset under management of $10.6 million and total holdings of 30 stocks.
PJB allocates 46.5% of its total assets in the top 10 holdings which also include industry bellwethers like JP Morgan Chase, U.S. Bancorp and Wells Fargo & Co. The top three positions go to JP Morgan Chase, Huntington and Fifth Third Bancorp.
The fund appears to be a bit pricey when compared to others as its charges a fee of 65 basis points annually. On an average around 2,900 shares of PJB are traded each day. This coupled with a below par asset base has resulted in a high bid-ask spread ratio which would hurt investors by increasing the total cost of their investment in PJB.
PJB returned around 16.4% in 2012 and has gained 6.54% so far this year.
PowerShares KBW Bank ETF (NYSEARCA:KBWB)
The fund manages an asset base of $96.1 million and is home to a very small basket of 24 companies. KBWB charges a fee of 35 basis points annually (For Financials, Look to These Top Zacks Ranked ETFs).
The top ten holdings play a very dominant role in the fund’s performance as nearly 60% of the asset base goes towards them. Among individual holdings, industry mammoths like Bank of America, Citigroup and JP Morgan Chase take up the top three holdings in the fund while Wells Fargo occupies the fourth position.
KBWB has exhibited a very strong performance in 2012 as indicated by its 2012 return of 32.42%. Also, the fund started the year on a strong note as revealed by its year-to-date return of 7.58%.