U.S. banking sector stocks suffered their sharpest blow since the 2008 financial crisis as Silicon Valley Bank, or SVB, toppled suddenly on Friday, March 10.
As mark-to-market losses in SVB’s portfolio of long-term Treasury bonds piled up from aggressive interest rate hikes, panicked depositors flocked to withdraw their money, sparking a run on the bank that SVB could not recover from.
SVB has since been taken into receivership by the Federal Deposit Insurance Corp. as regulators stepped in to guarantee deposits in an attempt to curb contagion within the broader banking sector. For investors, the shock waves from SVB’s collapse spurred short-term losses and volatility in many portfolios, especially those holding exchange-traded funds, or ETFs, with financial sector exposure.
“The more concentrated or homogenous the holdings of an ETF, the more impact bad news hitting a particular industry or large industry player will have on it,” says Dan Tolomay, chief investment officer at The Trust Company of the South. “Conversely, the more diversified the ETF, the less volatility it should experience.”
Accordingly, ETFs tracking broad-market indexes like the S&P 500 have been relatively less turbulent thanks to their higher diversification. Some indexes like the Nasdaq 100 managed to dodge large losses due to a complete lack of financial sector exposure.
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However, sector- and industry-specific ETFs focused on financial and bank stocks were hit particularly hard. Long favored for their high yields, these ETFs are now experiencing their worst losses in decades. That being said, some experts advise against a “doom-and-gloom” mentality.
“This time markets are dealing with a mismatch in assets and liabilities, which is problematic, but not yet a systemic risk” – John Gentry, senior vice president and head of corporate fixed income at Federated Hermes
“We suggest caution when drawing strong parallels to 2008 when credit risks such as bad housing loans, falling home prices and excessive leverage spawned the global financial crisis,” says John Gentry, senior vice president and head of corporate fixed income at Federated Hermes.
“This time markets are dealing with a mismatch in assets and liabilities, which is problematic, but not yet a systemic risk.”
Therefore, it’s important to remember the old Warren Buffett adage: “Be fearful when others are greedy, and greedy when others are fearful.” For bargain-hunting investors, the collapse of SVB and the rout in financial and banking ETFs could be a great buying opportunity.
Here are seven possible ETFs investors can use to bet on a banking sector rebound:
|Bank Sector ETF||Expense Ratio|
|Vanguard Financials ETF (ticker: VFH)||0.1%|
|Financial Select Sector SPDR Fund (XLF)||0.1%|
|iShares U.S. Financials ETF (IYE)||0.39%|
|Invesco KBW Bank ETF (KBWB)||0.35%|
|SPDR S&P Bank ETF (KBE)||0.35%|
|SPDR S&P Regional Banking ETF (KRE)||0.35%|
|iShares U.S. Regional Banks ETF (IAT)||0.39%|
Vanguard Financials ETF (VFH)
“We think the well-positioned banks and some of the financial companies that have taken it on the chin of late are worth it,” says Curtis Congdon, president at XML Financial Group. “This means institutions with a well-balanced portfolio that has diversity in securities and deposits with good cap ratios.”
A broad ETF pick that captures these traits is VFH, which charges a 0.1% expense ratio, or $10 annually per $10,000 invested.
VFH tracks the Spliced U.S. Investable Market Financials 25/50 Index, which holds a portfolio of 376 financial sector stocks including asset managers, diversified banks, exchanges, insurance brokers, investment banks and lenders. Regional banks currently only comprise 13.9% of its exposure. The ETF is market-cap weighted, so large banks like JPMorgan Chase & Co. (JPM) dominate its top holdings.
Financial Select Sector SPDR Fund (XLF)
Investors looking to focus on just the large-cap financial sector companies represented in the S&P 500 can pick XLF, which has just 67 holdings. Currently, the largest stocks in this ETF include Berkshire Hathaway Inc. (BRK.B), JPMorgan Chase, Bank of America Corp. (BAC), Wells Fargo & Co. (WFC) and Morgan Stanley (MS). Like VFH, XLF charges a 0.1% expense ratio.
Because the S&P 500 has a large-cap focus, XLF has a much greater allocation to large banks than most financial sector ETFs do. As of March 16, regional banks like First Republic Bank (FRC) only have a 0.18% allocation, much less than JPMorgan Chase, which currently sits at a 15.6% weighting. A good potential use for XLF is as a tax-loss harvesting partner for VFH.
iShares U.S. Financials ETF (IYE)
Investors can never have too many tax-loss harvesting candidates, and IYE could pair well with either XLF or VFH. This ETF tracks the Russell 1000 Financials 40 Act 15/22.5 Daily Capped Index, which is different from the indexes tracked by VFH or XLF. However, it has many of the same top constituents as XLF and VFH do, such as Berkshire Hathaway, JPMorgan Chase and Bank of America.
That being said, IYE has a large downside in the form of a much higher 0.39% expense ratio. This is nearly four times as expensive as XLF or VFH. Accordingly, IYE has been a less popular pick than the preceding two ETFs, having attracted just shy of $1.8 billion in assets under management, or AUM, despite an early inception date of May 22, 2000.
Invesco KBW Bank ETF (KBWB)
“When it comes to bank ETFs, we have a preference toward a market-cap-weighted ETF that tilts toward larger-cap bank stocks,” says Jon Maier, chief investment officer at Global X ETFs. “These banks stand to benefit from increased regulation and the squeeze on smaller and regional banks.”
“These big institutions remain healthy owing to high regulation, which is a consequence of 2008,” Maier adds.
A possible ETF pick here is KBWB which, unlike VFH, XLF or IYE, only holds bank stocks. More than 62% of the ETF is currently held in banks with a large-cap value focus, with top holdings once again composed of big players like JPMorgan Chase, Citigroup Inc. (C), Wells Fargo, Bank of America and Bank of New York Mellon Corp. (BNY). KBWB charges a 0.35% expense ratio.
[READ: Why Diversification Is Important in Investing]
SPDR S&P Bank ETF (KBE)
Risk-tolerant investors looking for higher exposure to regional banks can consider modified equal-weighted ETFs like KBE. By ditching the traditional market-cap-weighted methodology, ETFs like KBE ensure a greater allocation to mid- and small-cap stocks, which regional banks tend to be.
Case in point, around 71% of KBE is currently held in regional bank stocks. The rest of KBE is held in a smattering of mortgage finance companies, large diversified banks, asset managers and financial services companies, but overall, the ETF is highly exposed to regional bank stocks. Accordingly, from Feb. 21 to March 17, KBE went from $48.21 per share to $35.78 per share, representing a 25.8% loss. The ETF charges a 0.35% expense ratio.
SPDR S&P Regional Banking ETF (KRE)
“If an investor is looking for a regional bank ETF to bet on, then I think KRE is the best option,” says Derek Horstmeyer, professor of finance at George Mason University. “KRE has exposure to most of the banks that are viewed as highly speculative at this point in time, so it does come with a lot of volatility but also a lot of potential upside.”
As its name suggests, KRE is 100% concentrated in regional banks, albeit with a modified equal-weighted focus. This means that smaller regional banks are held in more or less the same allocation as their larger counterparts. From Feb. 21 to March 17, KRE lost 29.6% as SVB and Signature Bank of New York (SBNY) went to zero. The ETF also charges a 0.35% expense ratio.
“Be fearful when others are greedy, and greedy when others are fearful.” – Warren Buffett
iShares U.S. Regional Banks ETF (IAT)
Both KBE and KRE use a modified equal-weight methodology, which means a higher-than-usual exposure to smaller regional bank stocks. For a more traditional market-cap-weighted approach, investors can buy IAT instead, which tracks the Dow Jones U.S. Select Regional Banks Index. Currently, IAT has a total of 37 holdings, of which regional banks comprise 85.2%.
The top three holdings in IAT are PNC Financial Services Group Inc. (PNC), U.S. Bancorp (USB) and Truist Financial Corp. (TFC). Together, these three regional banks make up 38.3% of the ETF’s weight as their market cap is higher than the other 34 holdings. Compared to KBE and KRE, IAT also charges a slightly higher expense ratio of 0.39%.
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7 ETFs to Bet on a Banking Sector Rebound originally appeared on usnews.com