Here's How to Play Range-Bound Regional Banking ETFs

Lack of diversified incomes fails to offset shrinking margins

Along with their larger counterparts, regional banking stocks trail the S&P 500 by about two percentage points so far this year. Falling interest rates brought about by the protracted U.S.-China trade war and fears of a 2020 recession have remained a constant headwind for smaller banks as Federal Reserve cuts continue to squeeze margins.

Typically, banks borrow short term and lend long term. Therefore, when the yield curve inverts, like several sections of it have this year, net interest margins compress. Furthermore, unlike larger financial firms, regional banks usually don't have capital markets businesses to diversify income.

"Macro headwinds from lower rates present a large challenge for the regional banks," analyst Keith Horowitz wrote in a note to clients, per Barron's.

Despite the challenges from shrinking margins, traders should track the three regional bank exchange-traded funds (ETFs) discussed below. From a technical standpoint, each fund trades within a clear range-bound pattern and offers a high-probability setup if prices continue falling to crucial support levels.

SPDR S&P Regional Banking ETF (KRE)

With net assets of nearly $2 billion and charging a 0.35% management fee, the SPDR S&P Regional Banking ETF (KRE) aims to provide similar returns to the S&P Regional Banks Select Industry Index – an equal-weighted benchmark comprising U.S. regional banking stocks. The 13-year-old fund's regional focus produces a tilt toward mid- and small-cap names. Banks in the ETF's portfolio of 123 holdings include PNC Financial Services Group, Inc. (PNC), First Republic Bank (FRC), and Comerica Incorporated (CMA). Ample daily trading volume of over 7 million shares combined with an average penny spread suits both intraday and swing trading strategies. As of Oct. 9, 2019, KRE issues a 2.34% dividend yield and has gained slightly over 12% so far this year.

The ETF's share price has oscillated within a well-defined descending channel since the start of March, offering several high-probability trading opportunities on either side of the market. If price continues to move lower from current levels, traders should seek an entry point toward the channel pattern's lower trendline at $47 and look for a relative strength index (RSI) reading below 30 to confirm short-term oversold conditions. Consider placing a stop-loss order somewhere below support at $47 and booking profits near the channel's upper trendline.

Chart depicting the share price of the SPDR S&P Regional Banking ETF (KRE)

iShares U.S. Regional Banks ETF (IAT)

The iShares U.S. Regional Banks ETF (IAT) has an objective to track the performance of the Dow Jones U.S. Select Regional Banks Index. To achieve its investment mandate, the $391.01 million fund invests at least 90% of its assets in stocks that make up the underlying index. The ETF's top three stock allocations – U.S. Bancorp (USB), PNC Financial, and BB&T Corporation (BBT) – carry a cumulative weighing of almost 35%, making the fund somewhat top heavy. An average spread of 0.04% and dollar volume liquidity of roughly $7 million keep trading costs in check, while a 0.42% management fee makes holding for more extended periods workable. As of Oct. 9, 2019, IAT yields 2.63% and is trading up 16.40% year to date (YTD). Over the past month, the ETF has returned nearly 6%.

IAT shares trended sharply higher during January and February but have moved sideways since. From April, the fund's volume has steadily decreased, with neither the bulls nor bears stepping up to take control of price action. The ETF is down almost 7% from last month's swing high, looking destined to test support at the range's lower trendline at $41.60. Those who take a long position at that level should think about setting a take profit order near the trading range's upper resistance at $47.50. Protect capital with a stop order placed slightly beneath the August swing low at $41.60.

Chart depicting the share price of the iShares U.S. Regional Banks ETF (IAT)

Direxion Daily Regional Banks Bull 3X Shares ETF (DPST)

Launched in 2015, the Direxion Daily Regional Banks Bull 3X Shares (DPST) ETF attempts to provide three times the daily return of the S&P Regional Banks Select Industry Index – effectively making it a geared version of KRE. Traders should be aware that the ETF's longer-term returns may deviate from the advertised leverage due to the effect of compounding caused by daily rebalancing. Nonetheless, the fund offers a solid short-term tactical product for those who want to have an aggressive bullish bet on leading U.S. regional banking stocks. An average spread of 0.28% suits strategies that let profits run to cover slightly higher costs. Although the ETF's expense ratio of 1% may seem high, it sits in line with other funds that provide leveraged exposure. DPST controls assets under management (AUM) of $20 million, offers a 1.77% dividend yield, and is up a little over 20% YTD as of Oct. 9, 2019.

Because DPST tracks the same index as KRE, it's not surprising that their two charts almost mirror each other. A 15-point descending channel that has formed over the past seven months offers a highly rewarding opportunity for range-bound traders who buy near the pattern's support trendline at $28 and exit close to the channel's resistance trendline at $43. However, before committing capital, consider waiting for signs of a price reversal at support, such as a hammer candlestick or bullish engulfing pattern, to confirm that the current sell-off is over.

Chart depicting the share price of Direxion Daily the Regional Banks Bull 3X Shares ETF (DPST)
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