Warren Buffett famously advised investors to “be greedy when others are fearful,” and it’s hard to think of a sector of the stock market that is viewed more fearfully than regional banks right now, meaning that the SPDR S&P Regional Banking ETF (NYSEARCA:KRE) is probably worth taking a look at.
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The fall of Silicon Valley Bank in March sparked a major sell-off in the banking sector, and the subsequent collapse of First Republic Bank several weeks later renewed the market’s fears that the sky is falling for regional banks. KRE stock is down 35% year-to-date, and many prominent regional banks are down even more.
Light at the End of the Tunnel?
Nonetheless, some green shoots are beginning to emerge in the sector, and there may be some light at the end of the tunnel if you squint hard enough.
Last week, regulators took control of embattled First Republic and auctioned off its deposits and assets, with JPMorgan Chase (NYSE:JPM) emerging as the winner. CEO Jamie Dimon told analysts that “this part of the banking crisis is over” and that while there could be another small bank failure, “this pretty much resolves them all.” On Friday, many regional bank stocks staged a rally, so perhaps investors are paying heed to Dimon’s reassurance, and sentiment could be reversing after bottoming out.
To be clear, we likely aren’t fully out of the woods yet, and this type of investment is best suited for risk-tolerant investors. Dimon himself said that over the long term, there are still risks regarding assets like bonds and real estate as a result of the Federal Reserve’s continued interest rate hikes.
General wisdom states that investors should never put all of their eggs into one basket. However, I do think the time could be right to take advantage of the fear to start kicking the tires on regional banks and KRE or to start a small position and dollar cost average into a larger position over time.
For full disclosure, I have not bought KRE itself, but I have used the current weakness to start positions in its top holding, New York Community Bank (NYSE:NYCB) and US Bancorp (NYSE:USB), which is essentially a super regional bank based on its size and market capitalization.
In addition to the negative sentiment that may be beginning to reverse, here are several more reasons why this $2.7 billion ETF from State Street Global Advisors looks attractive now.
Rock-Bottom Valuation
After the sell-off, regional banking stocks look incredibly cheap, and KRE is no different. As of the end of the first quarter, the average price-to-earnings ratio of the ETF’s portfolio stood at just 7.7 times. To put that into perspective, the average multiple for the S&P 500 (SPX) is 23.9, more than three times higher than KRE’s average valuation.
Furthermore, KRE’s portfolio has an average price-to-book ratio of just 0.9 (as of March 31). Book value is the sum of a company’s assets minus its liabilities. The price-to-book ratio is simply a stock’s market value divided by its book value. This metric is widely used to value banking stocks. If a stock’s price-to-book ratio is under 1.0, this means that the company is being valued at less than its net worth.
This means that if the company were to be liquidated, the assets would be worth more than the stock currently is. The 0.9 price-to-book ratio is attractive because it means that KRE’s stocks are trading at a 10% discount to their net worth, on average.
A Solid Dividend ETF
Additionally, KRE sports a dividend yield of just under 4%. This is more than double the average dividend yield for the S&P 500, which sits at about 1.7%.
KRE has paid dividends to its investors for 13 years in a row, and it has grown its dividend at an impressive compound annual growth rate (CAGR) of 11.8% over the past five years and 10.2% over the past decade.
Is KRE Stock a Buy, According to Analysts?
It looks like Wall Street analysts also see plenty of value in KRE. It has a Moderate Buy consensus rating, and the average KRE stock price target of $51.98 implies upside potential of 38.9% from the ETF’s current price.
KRE’s Holdings
KRE is nicely diversified, with 145 individual holdings. Furthermore, its top 10 positions make up just 29.8% of the fund. As Dimon said, there could be “one more” small bank failure, so what I like about utilizing KRE in a situation like this is that it mitigates the single-stock risk of investing in one bank that ends up failing. If another bank fails, it would certainly hurt KRE’s price, but it wouldn’t be catastrophic for holders as it owns 144 other banks.
The chart below gives investors a comprehensive overview of the ETF’s top positions using TipRanks’ holdings tool.
As you can see, despite the doom and gloom in the banking sector, KRE’s top 10 holdings feature a pretty impressive collection of Smart Scores.
The Smart Score is TipRanks’ proprietary quantitative stock scoring system that evaluates stocks on eight different market factors. The result is data-driven and does not require any human intervention. A Smart Score of 8 or above is the equivalent of an Outperform rating.
As you can see, New York Community Bancorp, which has a 5.15% weighting in the fund, has a ‘Perfect 10’ Smart Score. Truist Financial Corp. (NYSE:TFC) and Synovus Financial Corp (NYSE:SNV) join New York Community Bank with 10 out of 10 Smart Scores. Meanwhile, other top holdings like Cullen/Frost Bankers, Inc. (NYSE:CFR) and East West Bancorp (NASDAQ:EWBC) feature Smart Scores of 8 or better. The only poorly-rated top holding is Citizens Financial (NYSE:CFG), which is rated a 2.
Darkest Before Dawn
In investing, it’s often darkest before dawn, and sentiment can reverse very quickly. While regional bank stocks are still navigating through a climate of fear, it might be a good time for investors to dip their toes in the water before sentiment rebounds.
Dimon believes that this part of the crisis is behind us, and while there are still risks ahead, the worst of it may be in our rearview mirror. I wouldn’t bet the farm on KRE, but starting a small position now and dollar cost averaging into it over time seems like a sensible move.
Additionally, KRE’s ample diversification provides investors with protection against an individual bank failing, and its rock-bottom valuation offers some downside protection plus plenty of room for future upside. Analysts see considerable upside ahead, and the ETF’s dividend yield of nearly 4% is a nice consolation prize for holders in the meantime. Therefore, KRE looks like an attractive opportunity at these levels for risk-tolerant investors.
