KRE: Strong Relative Performance Potential, But Absolute Is A Question

Remember that whole regional banking crisis thing? The regional banks certainly remember, particularly those that went bust. It’s been over a year since we had that scare, and now with the Fed entering a rate cutting cycle, I think we can safely assume much of that crisis is over. But the question is, can regional banks now be a place to actually invest in the long term? I really don’t know the answer. On the one hand, I think there’s an argument to be made that the bearishness and underinvestment means the industry group is due for leadership. On the other hand, if we hit a recession, these companies could be quite vulnerable. If you’re bullish and contrarian, and want exposure to regional banks easily without needing to do stock picking, then you may want to consider the SPDR® S&P Regional Banking ETF (NYSEARCA:KRE). KRE tries to match the performance of the S&P Regional Banks Select Industry Index. This index shows how regional banks are doing within the bigger S&P Total Market Index. The fund’s gross expense ratio is 0.35%, which is pretty good compared to other ETFs. Because it focuses on regional banks, KRE is linked to how well the U.S. banking sector is doing and what rules it has to follow. This can lead to both good and bad things. It’s also quite tied to investor sentiment around Financials more broadly, and small-caps.

A Look At The Holdings

Let’s take a closer look at what KRE owns. The fund holds a wide variety of regional banks. No position makes up more than 2.49% of the fund. Overall, there really isn’t concentration risk here, which is a plus. ssga.com The top five holdings can change, but they include some big names in regional banking. These banks are key players in their local areas. They offer all sorts of services, from personal accounts to loans for small businesses.

Sector and Global Allocation

KRE puts most of its money into U.S. regional banks. This focus means how well the fund performs depends a lot on what’s happening in the U.S. economy and with banking rules. Unlike funds that invest in banks worldwide, KRE sticks to American ones. This can be good or bad depending on how you look at it. By not spreading its investments around the globe, KRE is betting that U.S. banks and the economy will keep doing well. This is what makes me have some mixed feelings about the fund here. I think it can relatively outperform other parts of the marketplace, given how washed out some companies in the fund are post regional banking crisis of last year. But at the same time, these companies likely will still struggle in an economic recession.

Peer Comparison

One fund worth comparing this against is the iShares U.S. Regional Banks ETF (IAT). Both are trying to track the same part of the banking sector. When we compare the price ratio of KRE to IAT, we find that the two funds have the same performance roughly going back to late 2020. No real reason to consider one over the other, and both funds seem to cover this part of the marketplace accurately. stockcharts.com

Pros and Cons

On the plus side, smaller banks tend to adapt and respond better to local economic shifts than big banks do. This can open up chances for big gains when the economy is doing well. Furthermore, if interest rates go down, it could help regional banks, since they depend on the difference between what they pay for deposits and what they charge for loans. And yes, we are finally entering that cycle. But there are risks to think about. Regional banks might be more likely to struggle during economic downturns because they operate in specific areas. Furthermore, changes in regulations can hit smaller banks harder. The recent upswing in KRE’s performance might not last if the overall economic picture turns sour. Investors should think hard about these things, keeping in mind how much risk they’re okay with and what they want to achieve with their investments.

Conclusion

Overall, I think the SPDR® S&P Regional Banking ETF is a good fund for what it does. I would favor this over Tech because regional banks are far more underinvested than Tech is. Earlier in the year, I made the argument that regional banks have the potential to outperform large-cap Tech (which they have since February). Just be mindful of the economic cycle here. I think on a relative basis, this fund can continue to do well. On an absolute basis? Unlikely if a recession is at our doorstep.