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Hedge Hogs: Traders Flock To Protect This ETF Play


Ahead of the third quarters earnings season, some investors are hedging bets on financial sector stocks and exchange traded funds, hinting at potential weakness in the area as banks underperformed through the near-zero interest rate environment.

For instance, one large trader placed a bearish bet against the Financial Select Sector SPDR (XLF) on Thursday, acquiring 35,000 shares of XLF October 30 22-strike put options for 51 cents each, reports Stephanie Yan for CNBC.

The trade was a $1.8 millin play that the XLF would fall below $21.49 by October 30. XLF was up 1.1% Friday, trading around $22.7.

Dan Nathan, co-founder and editor of RiskReversal, pointed out that an increase in bearish bets against the financials sector through the options market suggests that traders are becoming more defensive going into the third-quarter earnings season.

“About 50% of the weight of the [financials sector ETF] is going to report between now and October 30th. So it could be a protection trade,” Nathan told CNBC. “[Traders are] trying to get protection at this big support level into earnings.”

The financial sector was trading near its August 24 close on Thursday.

In the week of October 12, Wells Fargo (WFC), JP Morgan (JPM), Bank of America (BAC) and Citigroup (NYSE: C) are scheduled to report earnings. The four make up 28% of XLF. Specifically, WFC is 8.5%, JPM is 8.0%, BAC is 5.9% and C is 5.3%.

In a research note, John Butters, Senior Earnings Analyst at FactSet, said investors should be watching Bank of America during the upcoming earnings season, pointing out that it is the largest positive contributor to year-over-year earnings in the S&P 500. However, excluding BAC, the estimated earnings growth rate for the financials sector would fall to 0.7% from 8.2%, which suggests a less favorable outlook for other financial companies in the upcoming earnings season.

ETF investors who are worried about the upcoming financial earning season can also hedge the sector through various levels of leveraged inverse strategies. For instance, the ProShares Short Financials ETF (SEF) takes the single inverse or -100% of financial stocks, while the ProShares U ltraShort Financials (SKF) takes a leveraged -200% of financials. Additionally, for -3x or -300% performance, there are the ProShares UltraPro Short Financials (FINZ) and Direxion Daily Financial Bear 3X Shares (FAZ) .

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

Max Chen 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.