KRE: Relatively strong performance potential, but the absolute is a question

Remember the regional banking crisis? Regional banks certainly remember, especially those that failed. It’s been over a year since we had this scare, and now with the Fed going into a rate cut cycle, I think we can safely assume much of this crisis is over. But the question is, can regional banks now be a place to actually invest for 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 needs to become a leader. On the other hand, if we do get into a recession, these companies could be quite vulnerable. If you are bullish and contrarian and want easy exposure to regional banks without having to do stock picking, then you may want to consider SPDR® S&P Regional Banking ETF (NYSEARCA:KRE).

KRE seeks to match the performance of the S&P Regional Banks Select Industry Index. This index shows how regional banks are doing within the 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 tied to how well the U.S. banking sector is doing and what rules it must follow. This can lead to both good and bad things. It is also quite closely related to investor sentiment regarding financials in general and small caps.

A look at holdings

Let’s take a closer look at what KRE holds. The fund owns a wide variety of regional banks. No position represents more than 2.49% of the fund. Overall, there’s really no risk of concentration here, which is a plus.

The top five holdings are subject to change, but include some big names in regional banking. These banks are key players in their local areas. They offer everything from personal accounts to small business loans.

Sectoral and global allocation

KRE puts most of its money in regional US banks. This concentration means that the fund’s performance is highly dependent on what happens in the US economy and banking rules. Unlike funds that invest in banks around the world, KRE sticks to American ones. This can be good or bad depending on how you look at it. Without spreading its investments across the globe, KRE is betting that US banks and the economy will continue to do well. This is what makes me have mixed feelings about the bottom line here. I think it can relatively outperform other parts of the market given how washed up some of the companies in the fund are after last year’s regional banking crisis. But at the same time, these companies will likely still struggle in an economic downturn.

Peer comparison

A fund worth comparing is the iShares US Regional Banks ETF (IAT). Both are trying to target the same part of the banking sector. When we compare the price ratio of KRE and IAT, we find that the two funds have performed about the same since the end of 2020. There is no real reason to consider one over the other, and both funds seem to cover this part of the market accurately . .

Pros and cons

In addition, smaller banks tend to adapt and respond better to local economic changes than large banks do. This can open up opportunities for big gains when the economy is doing well. In addition, if interest rates fall, it could help regional banks because 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 may be more likely to struggle during economic downturns because they operate in specific areas. In addition, changes in regulations may hit smaller banks harder. KRE’s recent uptick in performance may not last if the overall economic picture worsens. Investors should think about these things carefully, taking into account how much risk they are willing to take 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 prefer this over Tech because regional banks are much more underinvested than Tech. Earlier in the year, we argued that regional banks had the potential to outperform large-cap tech (which they have since February). Pay attention to the business cycle here. I think on a relative basis this fund can continue to do well. On an absolute basis? It is unlikely that a recession is at our door.

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