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Rough Road Ahead for Financial Stocks?


September 24, 2013
Chad Karnes, Chief Market Strategist

On Sep. 20, the Financials Select Sector SPDR ETF (NYSEARCA:XLF) traded eleven times its normal put options volume. That was the highest daily volume in over a year.  After all was said and done over 900,000 puts were traded compared to only 43,000 call options.  For traders, hundreds of millions of dollars in put protection were purchased on XLF, but that's not all.

Among the volume surge, 192,000 of put contracts were from one trader alone! It's assumed that this trader was just rolling his/her protection out to December because they also closed out their equivalent October positions.  Typically, hedges are initiated as risk control and suggest no directional movement.  However, 192,000 put options on XLF represent $386MM and is a sure sign of a large institution or hedge fund trade making a bet on potential downside in financial stocks. 

Instead of ignoring the trade, we ask; Was the put protection just a pure hedge or a bearish bet? We will never know, but shareholders in the five largest holdings of XLF - like Berkshire Hathaway (NYSE:BRK-B), Wells Fargo (NYSE:WFC), JPMorgan (NYSE:JPM), Bank of America (NYSE:BAC), and Citigroup (NYSE:C), should be on their toes. The heavy put volume suggests the big money is betting that more downside is ahead.


Something else also happened in August that has not occurred since financial stocks kicked off their admirable rally from June 2012.  Financials broke down from both their absolute uptrend as well as their leadership role in the S&P 500 (SNP:^GSPC).

The chart below provided for subscribers on 8/16 in our September ETF Profit Strategy Newsletter commented on the potential breakdown of the financial sector.  A few days later Financials indeed broke down and officially confirmed they were no longer the leaders of the market (NYSEARCA:SPY).

This means portfolio managers may soon be pressured to shift out of financial stocks and into other, better performing sectors, driving financial shares down even further.

Also discussed in the September Newsletter, is if XLF and one other very important sector both breakdown together, it will be something that hasnt occurred since the rally from 2009 started and will be a huge warning sign that the market (NYSEARCA:VTI) is shifting out of its leaders and becoming more defensive.  Financials have already started their leadership decline, but until joined by the other sector, the longer term uptrend should remain intact.

For now, shorting financials (NYSEARCA:FAZ) and staying long the broader market (NYSEARCA:SSO) is one way to take advantage of a lagging financial sector.  A pure short on financials isnt likely to be the right move just yet. However, the relative weakness of financials compared to the broader market suggests that a shorting opportunity is getting closer.

The ETF Profit Strategy Newsletter and Technical Forecast follow the major ETF asset classes and sectors in search of high probability profit opportunities like the one setting up in the financials.  We use fundamental, technical, sentiment analysis, market history, and common sense to stay ahead of major market trends.

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CommentsAdd Comment

grant8 said on September 25, 2013
  JP Morgan is on the verge of paying $11B to settle legal/fraud mortgage claims with federal and state agencies. Add that to their $7B London Whale loss. The money disappears just as fast as it's made. I wonder.....Does this mean Jamie Dimon gets a year end bonus?
Lars said on September 25, 2013
  Only the biggest banks have the Fed's backstopping, which means the others would presumably be allowed to fail. That's a lot of market cap down the toilet.
YorkDelta said on September 25, 2013
  Chad:Thanks for the link.
Chad, ETFGuide said on September 25, 2013
  York, here is the link to XLF's fact sheet which includes a holdings tab that shows the top 10 holdings and weights in the index. It is updated daily and also includes a link to all 82 holdings.

YorkDelta said on September 24, 2013
  How many TOO BIG TO FAIL banks are held inside XLF?
BakerGirl said on September 24, 2013
  Financials have been the largest beneficiaries of the Federal Reserve's hyper-aggressive monetary non-sense too. So now that QE is on the verge of being 'tapered' it's not exactly a bullish underpinning for financial ETFS - or is it?
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