The financial sector (XLF) currently offers attractive upside potential despite the challenges it has faced over the last several years.
The thesis for the financial sector is currently supported by a variety of fundamental factors. First, the homebuilding sector continues to show signs of recovery, which is directly supportive of the banking sector. Although housing may still be prone to setbacks along the way, the fact that financial stocks have trailed the homebuilders (XHB) by a wide margin over the past year suggests greater upside potential and downside protection relative to the homebuilding sector moving forward. The financial sector also consists of some of the largest institutions in the world, many of which are deemed “too big to fail” and are likely to continue receiving extensive support from policy makers. Financials also stand to benefit from higher interest rates if this trend continues moving forward due to the fact that it has the potential to result in higher earnings through increased loan profitability, new investments and bond trading. Lastly, financials have underperformed the broader market as measured by the S&P 500 Index (SPY) since the beginning of the recovery back in 2009, thus implying greater upside potential for financials as they close the relative performance gap versus the overall market.
Financials also set up particularly well from a technical standpoint following their recent upside breakout. The sector is currently responding to support at its upward sloping trendline that began following its mid-June bottom. It also enjoys support at the top of its previous trading channel at $20.24. In addition, it has shown strong responsiveness to support at its upward sloping 20-day, 50-day and 100-day moving average lines. Thus, the sector is well protected to the downside at present. Moreover, it has attractive near-term upside potential now that it has broken into a new higher trading channel. And although relative strength and momentum indicators remain bullish, a recent price consolidation over the last couple of trading days is providing some technical room for the sector to attempt its next push to the upside.
A long position was recently established in financial stocks via the Financials Select Sector SPDR (XLF). The initial upside target is the projected top end of its current trading channel at $22.08, which represents +7% upside from the initial purchase price at $20.59 per share. The initial time horizon on the position is between 15 to 45 days. The initial downside tolerance was set on the position at the upward sloping 20-day and 50-day moving averages at current price levels in order of $20.18 and $19.84, representing -2.0% and -3.6% downside at present. Given that these support levels are upward sloping, the downside potential associated with financials will continue to diminish as long as the trend associated with the position remains in tact. As always, the initial and revised target levels will be subject to additional adjustment and fine tuning as the position evolves going forward.
This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.