by Johnson Research Group | October 10, 2012 8:00 am
Typically, we like to steer clear of politics and policy when looking for investment trends and ideas, but the current environment surrounding the banking industry begs us to go against our norm.
Last week, part of the first presidential debate focused on the banking industry, specifically the “too big to fail” quagmire. One point during the discussion focused on the pressure that the smaller regional banks have faced in the post-Dodd-Frank world, suggesting that the legislation has caused many of the smaller banks to fail. Looking deeper into the regional banks finds that many companies have been able to thrive in the regulatory environment and are poised to continue higher.
From our perspective, based on performance only, there have been some extremely attractive targets in the regional banks, though the group itself is now lagging the larger financials. Year-to-date, the Financial Select Sector SPDR (NYSEARCA:XLF) is more than 23% higher, compared to 19% for the SPDR S&P Regional Banking ETF (NYSEARCA:KRE). Both ETFs are outpacing the S&P 500 for the year, but looking under the hood of the KRE reveals some extremely attractive performers that pose as excellent opportunities given the environment.
While large-cap financials have shown some performance, the smaller regional banks are offering a more target-rich environment for traders. Our proprietary ETF breadth measures show that a greater percentage of companies in the KRE are trading above their respective 50-day moving averages, a sign of technical strength for the sector. In addition, a large number of regionals continue to create “alpha” by outperforming the S&P 500.
The table below identifies the “Best of Breed” regional banks as indicated by their respective relative strength against the S&P 500.
Cincinnati-based Fifth-Third Bancorp (NASDAQ:FITB) is No. 6 on the list and set to announce earnings on Oct. 18 before the market opens. The regional bank has beat earnings estimates in only two of the last four announcements, including last quarter when EPS came in at 40 cents versus a 35-cent estimate. FITB shares are among the 18% of regional banks that are breaking to new 52-week highs, a display of the company’s leadership in the sector.
Short sellers increased their bets against FITB last month, forcing a recent short squeeze as the shares breached new high territory. The data suggest that there’s still fuel in the tank for a continued short squeeze higher, as well as potential for analyst upgrades to push shares higher.
Another Ohio Bank, Huntington Bancshares (NASDAQ:HBAN), catches our attention as an outperformer that’s likely to extend its trend. This Columbus, Ohio-based bank has been able to meet or beat analysts’ earnings estimates for the last four quarters as the financial markets show signs of improvements.
Shares prices have reflected the improvements, with HBAN breaking to new 12-month highs above $7.20. There’s the catch, though. The stock remains below the $10 level that many use as an oversimplified proxy for whether a stock is good or bad.
Though still far from what we would refer to as “high,” the short interest ratio is headed up, suggesting that the stock is climbing a “wall of worry.” Additionally, analyst recommendations remain extremely low on HBAN, with only 27% of those covering the stock ranking it a buy.
We expect this dynamic to change as HBAN continues its climb higher, forcing analysts to upgrade the shares. We’re targeting a move to the $8 level in short order as investors continue to see improvements in the fundamental picture, driving even stronger technical activity.
Finally, among the Best of Breed in financials is Zions Bancorp (NASDAQ:ZION). The Salt Lake City-based regional focuses on the Pacific region and offers community and small and midsize business services, including residential and construction development. (Zions is one of the companies included in InvestorPlace‘s Real America Index, representing the state of Utah.)
ZION shares are preparing to break back above the $22 level, which would forge into new 12-month-high territory. Sentiment, ahead of the Oct. 22 earnings release, is pessimistic as only 31% of the analysts covering the stock have it ranked a buy. Short sellers had been building positions in the shares, but they’re now unwinding their shorts, resulting in a declining short interest ratio as a short squeeze is pressing prices higher.
The last three quarters have seen earnings misses from ZION, resulting in some limited selling of the shares. With sentiment negatively biased, we believe a meet of the 33-cent EPS expectations would catapult the shares into new high territory.
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