Bank stocks rallied sharply going into their earnings reports. They have definitely shed the old understanding that they are unable to sustain upside trajectories for long. Case in point is Bank of America (NYSE:BAC), which broke out from $30 per share into a 20% rally just since October. Goldman Sachs (NYSE:GS) also rallied 26% since its October earnings. So it’s not a surprise that the Financial Select Sector SPDR Fund (NYSEARCA:XLF) rose 14% above it’s levels from the October dip. But at these levels it is likely that the easy work has been done.
This is not the same as saying that these stocks should be shorted. The idea is to buy low and sell high, and in this case BAC, GS and XLF don’t have obvious entry points at their peaks. The bottom line is that bank stocks have finally shed the “boring” label. Now the onus is on bulls to hold the necklines and renew the rallies.
It is also important to note the role that bonds play here. There is a phenomenon called “TINA” which refers to the fact that “There Is No Alternative” for global money but to buy U.S. bonds. This maintains a strong interest in bonds, thereby putting pressure on interest rates. And for the short term, these falling rates put downside pressure on the bank stocks. The Federal Reserve will help move this segment later in the week, following their policy decision on Wednesday.
Bank Stocks to Trade: Bank of America (BAC)
Bank of America is U.S.-centered, and it mostly is independent of what goes on abroad. It is a giant holder of U.S. accounts, so if there were to be survivors in the banking sector, BAC would be one of those. Just look at how it emerged from the 2008 financial crisis stronger. It even saved many other banks at the request of the U.S. government. So now it’s reaping the rewards on Wall Street as it broke out from $30 per share into a cup-and-handle pattern.
However, Bank of America has receded after this morning’s drop. While it looks and feels extreme, this is just part of normal price action. It is important for breakout stocks to revisit necklines to test them for footing.
BAC’s first support area is near $33 per share. This is not a hard line in the sand, but more so a consolidation zone. With the stock price now just below that level, then the next test is near $31 per share. The bottom line here is that if you’re long the stock you shouldn’t panic and sell until supports fails. If you’re looking to get long, use these dips into support as buying opportunities. It is good practice to never take full positions at once, thereby leaving room to manage the risk.
Goldman Sachs (GS)
When it comes to Goldman Sachs, I’m hesitant to even call it a bank. However, it recently announced strategic moves to get the company closer to true banking.
It is transitioning into more of a traditional bank with its online banking arm called Marcus. Since there is a major shift in strategy underway, it’s tricky to assess where the risk still lies in the stock. In the olden days this stock was the golden child because of its trading acumen. But risks from litigation still linger, and will remain for at least a few years.
Technically there is danger for Goldman Sachs at these levels. If shares fail to break above $250 then they are likely to experience a correction which could extend 20% or more. But there are levels of support along the way. There are likely to be buyers near $228 per share and all the way through $210 per share. This was a zone that served as a strong base for recent rallies. Maybe management will add reasons to buy the stock on their next investor day this week.
This rally arguably started in January 2019 as the stock bottomed after the 2018 Christmas debacle. Investors who have been long since then should have already booked some profits because they would have enjoyed a 50% rally. Now, they should start setting up another run, but patience is key. If I am looking to get long GS at these levels I better have a very long-term outlook.
I would rather chase a breakout from the highs than buy and hope that the company can repeat this performance. The next important step is to find footing and then worry about another rally.
The Financial Select Sector SPDR Fund (XLF)
An alternative way of betting on bank stocks is to use the exchange-traded fund that represents the sector’s mega-capitalization companies. Looking at the chart it is easy to see that prices have risen too fast without a rest. The XLF ETF rose 20% from its August base. So it was indeed vulnerable to corrections.
Shares are testing $30 this morning, which should be the first support zone. The last bounce level is at $29.40 per share and revisiting it would be part of normal price action. Although it would be great to hold above $30, XLF can fall toward $28 and not cause too much technical damage.
The bulls here enjoyed a great breakout similar to the one in BAC, and now they simply needed to shake off a few weak hands to establish a better base for higher prices in the future. The exciting part is that if the XLF bulls are able to break out from the $30 neckline, they would then have the chance to reach $36 per share. Dips usually represent opportunities but only if the media doesn’t turn a normal down day into a crisis. The macroeconomic conditions are not likely to change forever because of one virus. So this too shall pass.
So if XLF stabilizes then breaks out from $30.50, bulls can restart another 20% rally from there. At the end of last week I was feeling cautious, but now I feel bullish overall on the sector, at least at lower levels. I do like the fact that on dips they fall into great value with fortress balance sheets. But up here I would consider them tactical trades, meaning I set stop-loss tight below current levels so not to turn them into investments. Bank stock valuations are now rich so there is relative froth to shed on bad days. This is the definition of being cautiously optimistic.