The Right Way To Leverage Up The Financials Trade

Broadly speaking, the financial services sector is disappointing this year. Year-to-date, the Financial Select Sector Index, one of the most widely followed gauges of large-cap financial stocks, is down about 1 percent.

Amid the Trump Administration's efforts to relax industry regulations, the Federal Reserve's plans to boost interest rates multiple and solid first-quarter earnings, the second-largest sector weight in the S&P 500 has been a dud this year.

What Happened

“The street’s reticence isn’t entirely ill-founded,” said Direxion in a recent blog post. "This earnings season did come in the wake of a couple major market corrections and also began in the midst of escalating tariff negotiations between the U.S. and China, which could spell trouble for borrowers in the agricultural industry. Domestically, there is also the question of whether consumers will be able to afford to borrow as housing prices continue to rise to new heights in the midst of huge demand and credit card charge-offs rise to a six-year high.

Still, there have been some pockets of strength in the financial sector this year. For example, the S&P Regional Banks Select Industry Index is up 9 percent year-to-date.

Why It's Important

Regional banks are among the assets most positively correlated to rising interest rates because higher rates boost net interest margins for these lenders.

The responsiveness of regional banks to Fed tightening could bode well for the Direxion Daily Regional Banks Bull 3X Shares DPST. DPST, the dominant name among leveraged regional bank ETFs, attempts to deliver triple the daily returns of the S&P Regional Banks Select Industry Index.

“However, 2018 has produced signals of greater corporate lending while interest rates are still relatively low. Whether this is the beginning of a longer trend of borrowing or the last rush to capture sub-two percent, is yet to be determined,” said Direxion. “While the fundamental outlook on these banks may be mired in political and economic experimentation, another part of the financial sector could see an uptick in investor interest: their regional cousins.”

What's Next

Increased industry consolidation, as well as solid earnings from some of the well-known names in the index DPST tracks, could be events to lure short-term traders to DPST.

Conversely, signs that the Fed could reverse course, should those signs emerge, could make DPST's bearish cousin, the Direxion Daily Regional Banks Bear 3X Shares WDRW, a compelling short-term idea.

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