Despite the Federal Reserve easing regulations for many regional banks, the SPDR S&P Regional Banking ETF (KRE) – a proxy for the group – has underperformed both the financial sector and the S&P 500 Index by 1.9% and 3.52%, respectively, year to date (YTD) in 2019.
Investors have shied away from regional banks over fears of shrinking net interest margins (NIMs). Looming interest rate cuts means that what banks earn on their assets, such as loans, will decrease faster than what they pay on their liabilities – notably deposits. This is particularly the case for regional banks that have a high concentration of commercial-oriented loans with variable rates, according to John Pancari, a banking sector analyst at Evercore ISI, per Barron's.
The regional banks discussed below have a lower percentage of variable-rate loans compared to their competitors, putting them in a superior position to weather a period of lower interest rates. Let's take a closer look at how each firm has its NIMs protected and work through several possible trading plays as the Fed maintains its dovish policy stance.
KeyCorp (KEY) provides various retail and commercial banking services across 16 states, with Ohio and New York making up its largest markets. The Cleveland-based regional bank uses a mix of hedging strategies, such as interest rate swaps and floors that protects against rates falling below a specific level. Wedbush analyst Peter Winter believes that, although the risk management strategy does somewhat affect revenue, it also benefits the bank when interest rates fall. "KeyCorp was willing to give up some revenue, but it's really benefiting them in today's environment," Winter said, per the same Barron's article. KeyCorp stock has a market capitalization of $17.60 billion, issues an attractive 4.27% dividend yield, and is trading up 20.37% YTD, outperforming the regional banks' industry average by 4.05% over the same period as of July 22, 2019.
KeyCorp shares have formed an inverse head and shoulders pattern – a bottoming formation – over the past 12 months, indicating that the bulls have plans to push the stock higher. A recent pullback to the pattern's neckline and 200-day simple moving average (SMA) provides a high-probability entry point for swing traders. Those who take a long position should place a stop-loss order slightly below the 50-day SMA and aim to book profits near $21, where price finds significant resistance from the August 2018 swing high.
Signature Bank (SBNY)
Incorporated in 2000, Signature Bank (SBNY) provides a range of business and personal banking products and services through its two operating segments: Commercial Banking and Specialty Finance. The New York bank's loan book comprises heavily of multifamily financing – real estate loans that typically use intermediate-term interest rates. JPMorgan analyst Steven Alexopoulos expects the bank's NIM to see relief in 2020 if the Fed cuts rates, as high-cost deposits have a large runway to decline, as reported by Barron's. The investment bank has an overweight rating on Signature Bank stock, along with a 12-month price target of $150 – reflecting 21% upside from Friday's $123.87 closing price. Signature Bank, with a market value of $6.83 billion, offers a 1.79% dividend yield and has seen its share price jump 21.57% YTD as of July 22, 2019.
The regional bank's shares rallied 41% between late December and early March but have since failed to make new highs. Price broke above an area of six-week consolidation in early July, indicating that the stock may want to test its 52-week high of $137.35 set on March 5. Last week's retracement to crucial support at $120 provides traders with a suitable entry level. Think about protecting downside risk by placing a stop order just below the psychological $120 round number.
U.S. Bancorp (USB)
With a market cap of $87.56 billion, U.S. Bancorp (USB) is the nation's fifth-largest bank, offering a variety of diversified financial services, such as retail banking, commercial banking, wealth services, credit cards, and mortgages. Pancari expects the Minneapolis-based bank's impressive fee-generating ability to shield it from falling interest rates. Despite U.S. Bancorp's NIM falling three basis points from the previous quarter, it remains at 3.13% – the same as where it was 12 months ago. As of July 22, 2019, U.S. Bancorp stock trades at 12.3 times forward earnings, below its longer-term average of about 14 times, and has returned 21.97% on the year. Investors receive a 2.68% dividend yield.
An ascending triangle, which indicates upside continuation, has formed on the stock's chart between March and July. In conjunction with this bullish pattern, the 50-day SMA crossed above the 200-day SMA in early June to generate a "golden cross" – signaling the emergence of a new uptrend. Given that the relative strength index (RSI) shows overbought conditions, it may be prudent to wait for a pullback entry to the $54 level – an area where the price encounters support from a 12-month horizontal line, which also forms the ascending triangle's top trendline. Those who buy here should consider using a shorter period moving average, such as the 10-day SMA, as a trailing stop. Exit long positions if the stock falls below this month's low at $52.63 as this invalidates the trade setup.