Is the Financial Sector Poised for a Major Directional Move?

Key Points

• The financial sector has outperformed YTD, with an increase of over 8.5% compared to the overall market's 6.9%.
• The sector ETF is consolidating above previous resistance, with converging 20-and 50-day SMAs.
• The upcoming earnings report of the ETF's top holding, BRK.B, scheduled for May 3, could serve as a directional catalyst for the entire sector, given its narrow range.

The financial sector, an outperformer year-to-date, up over 8.5% compared to the overall market’s 6.9%, is currently in a fascinating position. 

The Financial Select Sector SPDR ETF NYSE: XLF has spent several months consolidating above the critical $40 level, resistance from 2021 and early 2022. Now, it's at a critical juncture, only 3.3% off from its all-time high. Currently, it finds itself at an intriguing point where its 20- and 50-day Simple Moving Averages (SMA) are converging at the same price — a rare occurrence.

This tightening of price action and narrowing range suggests the possibility of a significant move in either direction in the short term. Could the sector soar to new peaks, building on its consolidation above $40? Or will it falter, breaking below key support levels and signaling the beginning of a potential downtrend?

To better assess the likelihood of a directional move, let's examine current sector ratings and sentiment and the year-to-date performance of its leading players. 

The Financial Sector ETF and Its Top Players

The financial ETF provides exposure to significant players in the U.S. financials segment. It focuses on large banks through a cap-weighted, S&P 500-only portfolio and avoids small-cap companies.

Holdings in the XLF ETF have an aggregate rating of Hold based on 773 ratings issued in the past year, covering 94.5% of the portfolio. The holdings have an aggregate price target of $42.62, forecasting an upside of over 4% for the sector ETF. Geographically, the ETF maintains a predominant focus on the United States, with a substantial exposure of 95.3%. Regarding industry exposure, XLF presents a diversified portfolio, with 27.4% allocated to insurance, 25% to banks, 21.85% to diversified financial services, and 21.3% to capital markets.

Ahead of Berkshire Hathaway’s upcoming earnings scheduled for May 3, the sector is in tight consolidation, with many of its other top holdings having already reported earnings. Last week, the financial sector witnessed quarterly results from 23 companies within the ETF. Among these, 15 companies surpassed earnings expectations, while eight fell short. Regarding revenue, 12 companies exceeded estimates, while 11 fell below expectations.

The ETF’s top three holdings have a combined 30% weighting and significantly influence the overall sector. Let’s look at each holding and analyze its current positioning. 

Berkshire Hathaway Inc.

Berkshire Hathaway NYSE: BRK.B is the ETF’s largest holding, with a 13.28% weighting. Ahead of its upcoming earnings report, which might significantly influence the sector's direction in the short term, the financial giant is trading below a declining 50- and 20-day SMA with momentum to the downside. 

Year-to-date, Berkshire's shares have outperformed its sector and overall market up by almost 13%. Investors and sector participants will closely monitor the upcoming earnings report, which could be a directional decider for the overall ETF, considering the company's significant weighting. BRK.B has projected earnings growth of 19.08% for the entire year and currently has a P/E of 9.09.

JPMorgan Chase & Co.

JPMorgan Chase & Co. NYSE: JPM, the ETF’s second top holding, has performed impressively year-to-date, up close to 14%. After gapping lower after reporting earnings, the stock has filled the gap to the upside and is now trading above all major moving averages. If JPM can continue to consolidate above $190, its 52-week high, just 3.7% away, might become the next potential target.

Visa Inc.

Visa NYSE: V has a 7.9% weighting in the ETF, making it the third-largest holding. The company, which boasts a Moderate Buy rating and consensus price target forecasting over 10% upside, reported earnings last week. The credit card processor reported $2.51 earnings per share for the quarter, beating the consensus estimate of $2.43 by $0.08. The firm earned $8.78 billion during the quarter, compared to analyst estimates of $8.62 billion. Its revenue for the quarter was up 9.9% on a year-over-year basis.

Although Visa shares have pulled back almost 6% in recent weeks, off its 52-week high, the stock remains in a firm uptrend, well above its rising 50 and 200-day SMA on the weekly chart. In the near term, if Visa can reclaim $280, a move toward its 52-week high and $290 might be possible. Conversely, if the stock breaks support near $270, momentum might shift for the overall sector and stock.