Two ETFs to Reap Earnings Growth in Financials

Includes: IAT, XLF
by: Kevin_Grewal

Despite facing new and fresh stress tests, large-cap financial institutions appear to be positioned for earnings-per-share growth in 2011, making the Financial Select Sector SPDR (NYSEARCA:XLF) and the iShares Dow Jones US Regional Banks Index Fund (NYSEARCA:IAT) attractive.

According to an article in Barron’s magazine, Credit Suisse (NYSE:CS) expects large-cap financial institutions like Bank of America (NYSE:BAC), JP Morgan Chase (NYSE:JPM), Wells Fargo (NYSE:WFC), PNC Financial Services (NYSE:PNC), US Bancorp (NYSE:USB) and Citigroup (NYSE:C) to witness earnings-per-share growth of 25 percent. The true driver behind this profitability is expected to be improving credit costs and more active capital management.

Furthermore, the article states that the large-cap financial institutions face headwinds due to the newly implemented Basel proposals, which included stress tests that are expected to determine which financial institutions have healthy enough balance sheets to increase dividends and buy back shares. Healthy organic capital generation should be able to absorb the revised standards with no drastic impacts.

In addition to the aforementioned, the implementation of QE2 benefits large financial institutions in that it is keeping short-term interest rates at near-record lows and has pushed long-term interest rates higher, generating something of an arbitrage opportunity. Large financial institutions are able to lend long-term at higher interest rates, virtually for free, and this trend is expected to continue to prevail in the near term, enabling large financial institutions to reap the benefits.

As mentioned earlier, some ETFs to capitalize on this possible opportunity include:

  • XLF, which boasts 81 different holdings and boasts JP Morgan Chase, Wells Fargo, Bank of America and Citigroup as its top holdings.
  • IAT, which has 66 different holdings and boasts US Bancorp and PNC Financial Services as its top two holdings, accounting for nearly 29.7% of the ETF’s assets.

Disclosure: No Positions