Monday, August 28, 2006

Financial Sector ETFs

GlobeinvestorGOLD, Rob Carrick, 28 August 2006

Bank stocks are looking good these days, and it’s not just because Bank of Montreal has auspiciously begun the latest round of quarterly financial reporting for the sector.

With the U.S. Federal Reserve on hold after a two-year streak of interest rate increases, the stock markets have entered a phase where financial stocks traditionally do well. Certainly, BMO seems to be doing its part to keep this pattern of market behavior alive. The bank has reported a 30-per-cent increase in profits for the third quarter, driven in part by one-time gains but also by strong results from its retail and commercial banking operations.

Will the other banks do as well? Are there banks that are better bets than others for investors? If you’re struggling with these questions, then an easy answer is to buy all the banks at once and hedge your bets.

The way to do this is through an investment in the iShares CDN Financial Sector Index Fund (XFN-TSX), which holds the shares of banks, insurers and mutual fund companies. With about two-thirds of its assets in the Big Six banks, though, this exchanged-traded fund is an ideal way to get bank exposure without twisting yourself in knots over which to buy. The management expense ratio for the iShares CDN Financial Sector Index Fund is reasonable at 0.55 per cent, and the dividend yield is respectable at 2.1 per cent. The fund is up about 6 per cent this year, compared to about 8.2 per cent for the S&P/TSX composite index.

The strong performance of financial stocks following a Fed pause applies to U.S. banks as well as Canadian ones, which means investors may want to consider ETFs that cover the American financial sector as well. Your choices include:

Select SPDR-Financial (XLF-American Stock Exchange): A low MER of 0.24 per cent, good liquidity and 55-per-cent exposure to the banking sector. Also, a decent dividend yield of 2.2 per cent.

Vanguard Financials ETF (VFH-Amex): The MER is 0.25 per cent, the bank weighting is about 28 per cent and trading volumes are on the low side.

iShares Dow Jones U.S. Financial Sector Index Fund (IYF-NYSE): The MER is high at 0.6 per cent, liquidity is modest and the holdings are spread throughout the financial sector.

StreetTracks KBW Regional Banking ETF (KRE-Amex): The MER is 0.35 per cent for this relatively new ETF, trading volumes are somewhat modest and the focus is on smaller regional banks rather than mega players like Citigroup.

There’s a lot to be said about owning the shares of individual banks, but the simplicity and diversification of financial sector ETFs are an ideal solution for some investors. With the banking sector seemingly heading into a sweet spot, these ETFs make more sense than ever.