Banking bulls ought to turn their gaze to Wall Street

BANKER bashing remains a favourite political pastime – but investors have become a little more upbeat towards the sector, and for good reason. Indeed, a recent global fund mangers survey conducted by Bank of America-Merrill Lynch revealed that banking is no longer the least-liked sector, handing this rather dubious accolade over to utilities.

Even the part-nationalised British banks RBS and Lloyds Banking Group received a boost on Friday after the latter surprised the market with a strong trading statement and claimed that it would return to profitability this year.

The bank saw its shares rally 9.65 per cent – making it the biggest gainer in the FTSE 100 on Friday – while RBS surged 5.36 per cent. That said, considerable uncertainties remain about the health of the part-nationalised firms, especially RBS, which continues to drag down the overall sector.

Spread betters looking to take a punt on the financial sector but who are worried about the UK’s volatility might want to cast their gaze across the Atlantic to the S&P 500 financial sector and its constituents. The wider S&P index has already broken out to new bull market highs and the financial sector also managed to set a new high last week with more than 40 per cent of its constituents making new 52-week highs. However, it has not yet broken out convincingly and spread betters bullish on the banking sector might expect it to catch up with the wider index in the coming weeks.

British spread betters should be aware that the US banks are very different to their UK counterparts. You cannot always apply the same trading decision processes. For example, the UK index is often led higher by a handful of major international banks. Also, the FTSE 100 banking sector only has five components and makes up 16.5 per cent of the wider index.

The US S&P Financials sector makes up a similar percentage of the S&P 500 (16.32 per cent) but consists of 79 stocks and includes regional banks that might not necessarily have a big international presence. For example, Wells Fargo is now a very large bank within the US and is concentrated mostly on the west coast. It is now looking to become much more important internationally to compete with the likes of JPMorgan on the world stage.

As a UK spread better, you are probably better off trading the individual banks – Kully Samra at US broker Charles Schwab says that it is very much a stock pickers’ market at the moment, even if the banks have all moved en masse first down and then back up over the past 18 months. For example, financial stocks used to be a good place for dividend yield but in the wake of the crisis some banks such as Citigroup have cut or even scrapped their dividends.

But in recent days, executives at both Goldman Sachs and JPMorgan (two of the healthier American big banks) have spoken publicly about the possibility of returning cash to investors in the form of increased dividends. Spread betters holding long positions will generally get an adjustment equal to the dividend that would be received by a UK taxpayer holding the equivalent position in the underlying financial instrument.

The US banking sector should benefit from the Fed thinking about interest rate-hikes, as high spreads help profitability. It should also do well out of renewed M&A and IPO activity. JPMorgan sees US investment banks outperforming in the first quarter of this year compared to underperformance in emerging markets and Asia as well as slow growth in Europe. JPMorgan thinks that fixed income-geared Goldman Sachs in particular should do well.

However, Charles Schwab’s Samra warns that problems in the US housing market means the broker is expecting another leg down. In the residential sector, a new range of adjustable mortgages needs to be reset this year, pushing more stock onto the market, while the commercial market is beginning to go through a bit of a retrenchment. Also casting a slight shadow over the US banking sector is the threat of regulation, which may pose a risk to any long spread bets. So watch Wall Street, but make sure you stay on your toes.