Regional Bank ETFs Could Benefit from Rising Rates

ETF Trends

Financial services ETFs, such as the group’s behemoths the Financial Services Select Sector SPDR (XLF) and the Vanguard Financials ETF (VFH) , have been stellar performers in 2013. That much is highlighted by the average return of XLF and VFH, which is a tidy 21%.

Regional banks and the corresponding ETFs have been solid performers, but laggards in comparison to XLF, VFH and related fare. It is an easy scenario to explain. XLF and VFH have benefited from exposure to the largest U.S. banks such as Bank of America (BAC), J.P. Morgan Chase (JPM) and Wells Fargo (WFC). [The Case For Financial Sector ETFs]

Some regional banks have seen their earnings crimped by low interest rates. Net interest margin, or the spread between the average yield on loans and securities investments and a bank’s borrowing deposits costs, has pressured earnings power for regional banks, but a steepening yield curve could limit further NIM downside. [REIT ETFs Punished By Rising Rates]

“A 100 basis point — 1 percentage point — rise would likely be positive for banks because it will boost margins without meaningfully hurting book value,” reports Shanthi Bharatwaj for TheStreet.com.  Higher rates increase the spreads between rates earned on loans and investments and the interest paid to depositors.

Investors looking to profit from rising rates via regional bank ETFs have a few options, including the $1.5 billion SPDR S&P Regional Banking ETF (KRE) . Home to 78 stocks, KRE is a quasi-equal weight play on regional banks as no single holding receives an allocation of more than 1.98%.

Whereas some ETFs sport the regional bank tag only to be heavy on large-cap super regionals such as US Bancorp (USB) and PNC Financial (PNC), KRE represents more a pure play on regional banks with a weighted average market capitalization of $4.4 billion. KRE has gained 18.1% year-to-date. [Regional Bank ETFs For Financial Sector Exposure]

Another option to consider is the far smaller PowerShares KBW Regional Banking Portfolio (KBWR) . That ETF has just $17.5 million in assets under management, but that diminutive stature belies the fund’s solid performance as the ETF is up 11.4% this year.

A key difference between KRE and KBWR is the latter’s heavy weight to small-caps. The ETF allocates almost 87% of its weight to small-cap growth and value names, according to PowerShares data. With that in mind, it is not surprising that KBWR’s P/E ratio of 16.63 is higher than the 14.43 found on KRE. KBWR holds 50 stocks with weights ranging from 0.93% to 3.63%. Both ETFs have annual expense ratios of 0.35%.

SPDR S&P Regional Banking ETF

View photo

.

kre

 

ETF Trends editorial team contributed to this article.

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.

Rates

View Comments