The Financial Select Sector SPDR Fund (XLF) Is at a Critical Crossroad


Banks and other financial institutions will begin reporting earnings today. Given the importance of the financial sector for the stock market and the economy as a whole, traders and investors must also have perspective as to where things stand in this space. The financials sector as represented by the Financial Select Sector SPDR Fund (XLF) (NYSEARCA:XLF), remains in a precarious long-term spot despite showing positive signs for most of 2016.

The Financial Select Sector SPDR Fund (XLF) Is at a Critical CrossroadThird quarter earnings season has kicked off and one of the first groups of stocks to report are the financials. Big name banks like Citigroup Inc (NYSE:C), Wells Fargo & Co (NYSE:WFC) and JPMorgan Chase & Co. (NYSE:JPM) are all set to report, and how the financial sector as a group reacts to the earnings could set the tone for the remainder of the year.

Before looking at the charts, it is important to set some basic context around stocks, i.e., U.S. equities as an asset class. While there have been some notable volatility spikes, in the bigger picture, the S&P 500 has gone nowhere fast since late 2014 or early 2015, depending on how one measures this.

The S&P 500 did manage to sneak to a higher high this summer, yet more broadly diversified equity indices made decisive lower highs versus their 2015 highs and more and more stocks within the S&P 500 too are showing the same behavior. Simply put, the longer these negative divergences develop under the surface, the bigger the odds ultimately become of a more meaningful breakdown in stocks.

XLF ETF Charts

Looking at the multi-year picture of the XLF ETF, we note that the 2009 up-trend remains well intact and along with the breakout in the S&P 500 this summer, the ETF even marginally broke past diagonal resistance. From this technical perspective, there are plenty of positives, particularly if we also consider the notable series of higher lows over the last 14 months or so.

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On the daily chart, we note that while the XLF ETF had a miserable start to the year, along with the broader stock market, but it rebounded in the spring and summer months. However, we also see that so far, all that has been accomplished by the rally is to get the ETF back into the upper quadrant of its multi-year sideways range, which I marked with the blue box.

Yes, XLF has seen some moves above and below this range, but the majority of price action since the fourth quarter of 2015 has taken place in the blue shaded area, which is to say that XLF and, therefore, the financials largely remain stuck in a range.

From a trading perspective, a break and hold below $19 on at least a daily closing basis by the XLF could lead to a leg lower back to the June lows. Alternatively, because we just always respect both sides, a break and hold above $20 could get a better move to the upside in motion with a price target near $22.

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