An ETF For A Financial Services Rebound

Its rally off its February lows has been impressive, but the Financial Select Sector SPDR (NYSE:XLF) is still one of the worst-performing sector SPDR exchange traded funds with a year-to-date loss of 6.5 percent. Adding to the near-term problems for U.S. bank stocks and ETFs like XLF is that when the sector climbed last year as investors were betting on the Federal Reserve raising interest rates, the group became expensive on valuation.

Patient investors could be rewarded with bank stocks and ETFs in the form of consistently rising dividends. The financial crisis undid decades' worth of dividend ebullience from big banks in short order, leaving some income investors scorned and doubting the sector's future dividend growth prospects.

Another avenue for playing a rebound in bank stocks is the Financial Services Select Sector SPDR (NYSE:XLFS). The Financial Services Select Sector SPDR debuted in October with the Real Estate Select Sector SPDR (NYSE:XLRE) as the newest additions to the sector SPDR ETF family.

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Where XLFS departs from XLF is that the former excludes real estate stocks, which implies XLFS, like dedicated bank funds, is an ETF that would be just fine if interest rates rise in earnest.

In a recent research note, AltaVista Research rated XLFS overweight, a rating that implies the ETF holds stocks trading at attractive valuations and/or having above-average fundamentals.

In November 2014, S&P Dow Jones Indices and MSCI, two of the largest providers of indices for use with ETFs, announced real estate previously included as part of the financial services group would become its own sector.

Real estate becoming its own sector may be the impetus behind the launches of XLFS and XLRE, but the timing of these debuts is interesting because of the perceived benefits higher interest rates have on banks. Conversely, real estate stocks, including those held by XLRE, are seen as vulnerable to rising interest rates.

Top 10 holdings in XLFS include Warren Buffett's Berkshire Hathaway Inc. (NYSE:BRK-B), Wells Fargo Co. (NYSE:WFC) and J.P. Morgan Chase & Co. (NYSE:JPM).

Financial Services firms have made steady improvements in profitability (margins and ROE) since the Financial Crisis, and with lower leverage hopefully they will be more stable as well. Given the robust, double-digit long-term EPS growth projections and quite reasonable valuation multiples--especially after the recent selloff--the sector looks attractive and enjoys an OVERWEIGHT recommendation, said AltaVista of XLFS.

Disclosure: The author owns shares of XLF.