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Weekly ETF Report: Thanks Italy, We're Going to the Bank

Jim Woods' Weekly ETF Report
In This Issue:
  • Thanks Italy, We’re Going to the Bank
  • ETF Talk: Applying Newton’s First Law of Motion to an ETF
  • How to Invest Like a Renaissance Man
  • Hemingway’s Whiskey

Thanks Italy, We’re Going to the Bank

By: Jim Woods | Editor, Successful Investing & Intelligence Report
05/30/2018

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I confess that I love the bold red wines from Italy’s Piedmont region. On more than one occasion, my overindulgence in these full-bodied, fermented grapes has left me drunk with pleasure.

Interestingly, I had that same feeling yesterday when watching the overblown market reaction to the political uncertainty in the country -- uncertainty that caused U.S. stocks to tumble and global and U.S. bond yields to plummet.

Yet my sense of being drunk with pleasure on Monday was free from any fermentation. Instead, I was drunk with the knowledge that I had just bought into a market sector on the cheap, and one that had been unfairly sold off on what I suspect will prove to be soon-forgotten news.

That sector is banks and financial stocks, and specifically U.S. regional banks found in the SPDR S&P Regional Banking ETF (KRE). This exchange-traded fund (ETF) holds the best U.S. regional bank stocks, with top names in the fund such as SVB Financial Group (SIVB), Texas Capital Bancshares, Inc. (TCBI) and Cullen/Frost Bankers, Inc. (CFR) among its biggest allocations.

On Tuesday, KRE shares tumbled 2.4% from last Friday's closing price as the yield on the 10-year Treasury note sank 13 basis points to 2.80%.



Yet, in Wednesday’s trade, KRE rebounded nicely, nearly recovering all its prior-session losses.

For me, and for readers of my Intelligence Report advisory service, the dip on Tuesday in KRE meant we bought into the fund at a discount. (KRE is just one of the new recommendations in the service. For a full list of our latest buy recommendations, I invite you to check out the Intelligence Report today.)

So, why did U.S. regional banks and financial stocks get hit hard Tuesday by, of all things, internecine Italian politics? To understand this, we need to take a quick dive into the details of domestic Italian politics to see what happened -- and why it matters to financial markets.

Over the weekend, efforts to form a functioning government in Italy collapsed, and as you likely know, that proved to be the catalyst for the worst day in U.S. markets in over a month. The failure to form a government stems from what happened in March during the last Italian general election.

Here we saw two “anti-establishment” parties, the 5-Star Movement and the League, receive the highest number of votes. That caused some general concern in markets that if the two parties were to collaborate and form a functioning government, they might ultimately introduce what the markets really don’t want, and that’s a “Brexit”-style referendum calling for Italy to leave the European Union (EU).

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Over the past few weeks, the League and 5-Star Movement (along with other smaller parties) have come close to reaching an agreement on forming a functioning government. This has raised fears over what cleverly has been called an “Italeave” from the EU.

Adding fuel to the fear of an Italeave was the recent nomination of an anti-EU economist as the country’s finance minister. Last weekend, the President of the Republic vetoed the finance minister’s appointment on the grounds that the Italian Constitution says Italy is in the EU. The decision sent the negotiations to form a government into a nosedive, and now it is likely the Italian Parliament will vote “no confidence” this week. This means that new national elections will be called.

This matters to markets because if anti-establishment parties like the League and 5-Star Movement gain more power from another general election, the potential for an ultimate referendum on EU membership will grow. And because Italy is the third-largest economy in the EU, an Italeave would roil the entire euro zone, and the entire global economy.

As for markets, the real impact of this Italeave fear can be seen in bonds. Italian bond yields rose sharply on the political developments over the weekend. In a flight to safety, German bund yields fell, as did U.S. Treasury bond yields (remember, bond prices and bond yields are inversely correlated, meaning if bond prices go up, bond yields go down).

For banks and financial stocks, including those in KRE, falling bond yields would compress margins in the short term, and unwind some of the rally that banks have enjoyed this year due to the expectation of continued higher interest rates, i.e. rising bond yields.

Yet, what is important to understand here, and why I think the Italian-themed selling in bank stocks will prove evanescent, is because nothing to do with Italy has altered the fact that the medium- and long-term trend in U.S. Treasury yields is higher. This trend is being driven by 1) Rising inflation and 2) Fed rate hikes.

My oft-quoted colleague, Tom Essaye of the Sevens Report, gave me some insight on this situation, saying, “If the EU begins to ease up on interest rate hikes to offset the Italian uncertainty, then that could constrain the Fed regarding the eventual number of rate hikes here at home. But that isn’t a negative for the U.S. stock market. If anything, it’d allow inflation to run.”

The bottom line here is that the drivers pushing bank stocks higher are a continuation of the “reflation trade” that I’ve been telling readers about for much of the past six months. That reflation trade includes rising inflation, rising bond yields and an increase in economic growth, bank lending and in bank bottom-line growth.

So far, nothing to do with the Italian elections threatens that paradigm. As such, when the sector sees selling like it did yesterday, well, we’re going to take advantage of the opportunity and continue going to the bank.

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**************************************************************

ETF Talk: Applying Newton’s First Law of Motion to an ETF

The Fidelity Momentum Factor ETF (FDMO) is a U.S.-stock-based exchange-traded fund (ETF) that tracks large- and mid-cap companies which have been performing well recently.

As the great Sir Isaac Newton once famously stated as his first law of motion, “an object in motion will stay in motion.” If this statement is applied to investing, and FDMO specifically, one could say that the ETF’s management bases its investments on the theory that a stock in motion tends to stay in motion.

Momentum investing, according to academics, is one of the few broad general strategies that truly seems to beat the market over time, taking the entire of history of the market into account. What is not clear, however, is whether this theory still holds in the modern market environment.

As this information has become fairly well known in recent years, it already may be priced into markets. The long-term results of momentum investing could be due to underlying strength in companies, investor psychological factors, both of these, or something else entirely.

FDMO invests in big, household names that “exhibit positive momentum signals.” Additionally, as befits its overall investment strategy, the fund’s sector allocations closely align with recent top-performing segments. For example, FDMO’s two biggest sectors by allocation are information technology (25.41%) and financials (14.20%), which, according to Fidelity, are two of the best-performing sectors over the last year.

This year, FDMO has returned 2.43%. Over the last 12 months, though, the return was a more impressive 17.12%. The expense ratio of 0.29% is reasonable and the fund pays a modest yield of 1.13%. Assets total about $75 million, which puts the fund on the small side.



Top holdings for FDMO include Apple Inc. (AAPL), 4.03%; Microsoft Corp. (MSFT), 3.54%; Amazon.com Inc. (AMZN), 3.09%; Facebook Inc. (FB), 2.29%; and JPMorgan Chase & CO. (JPM), 2.09%. Plus, 24.14% of FDMO’s assets are invested in its top 10 holdings.

If you believe that investments that have gone up recently will continue to go rise, the Fidelity Momentum Factor ETF (FDMO) has an investment strategy that may align with your investing philosophy.

As always, I am happy to answer any of your questions about ETFs, so do not hesitate to send me an email. You just may see your question answered in a future ETF Talk.

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How to Invest Like a Renaissance Man

Investing isn’t easy. In fact, becoming a good investor is part art, part fundamental and technical analysis, part psychology and, let’s face it, part luck.

I gave a presentation earlier this month to a very attentive audience at the Las Vegas MoneyShow that I titled, “How to Invest Like a Renaissance Man.” The goal of this presentation was to help people identify some of the key characteristics that I think are necessary when approaching money decisions (as well as life decisions).

I received a lot of great feedback from those in attendance, many of whom said the presentation helped them look at things from a different perspective. This was gratifying to me, as helping people look at things differently is one of the goals of my writing. And, if that goal also serves to help people become better investors, then it’s a one-two punch of positivity.

This week, I thought I’d share some of the key principles of my presentation with you. I hope you find them interesting, and I hope they help you look at things from a different perspective.

First, let’s define what I mean when I use the term “Renaissance man.”

To me, a Renaissance man is an outstandingly versatile, well-rounded person. He (or she) is someone who uses both the left and right side of his brain when making decisions. He’s also someone who seeks to develop skills in all areas of knowledge, in physical development, in social accomplishments and in the arts.

The way I see it, there are several key traits that characterize a Renaissance man. Perhaps first and foremost, a Renaissance man is curious. He wants to know about things, he wants to understand and he’s constantly in search of information.

Next, a Renaissance man is a risk taker. Never content to just let the wave of life wash over him, a Renaissance man grapples with life’s joys and difficulties the way an anaconda grapples with its prey. He stalks it, waits for the right moment to strike, then squeezes the life out of it before consuming it whole.

A Renaissance man also must have perseverance and self-discipline. It’s not enough just to be curious and to simply take risks. A Renaissance man also must fight through the inevitable adversity that is existence, and the only way to do that is to persevere and employ a heavy dose of self-discipline.

A Renaissance man is creative. Not content to just do what the crowd does, he is one who makes mental connections and sees relationships and reality through the lens of new opportunities. This is particularly important when investing, as those who can see — and invest — in opportunities likely to ignite a wealth-creation explosion often will be handsomely rewarded. Just ask the people who invested in Amazon.com (AMZN) in the 1990s, or in Bitcoin just 18 months ago.

Perhaps most importantly, a Renaissance man is always learning. You see, no matter how much success you have, or how great your expertise in a particular field is, you must never stop learning in life. A true Renaissance man embraces the process of learning, and in the doing he finds meaning in existence qua existence.

Now, how do we apply these principles to investing?

Well, first, we must learn to know ourselves. A Renaissance man seeks self-knowledge, which means he needs to know what he’s good at and what he’s not so good at.

Some investors know themselves well enough to know they must be in tight control of their money. They need to do it themselves. While they’ll take advice from trusted sources and experts, they want to be the ultimate decision makers. I can identify with this group because I would place myself in this camp as well.

Now, other investors know themselves well enough to realize that when it comes to making decisions and/or following a plan, they aren’t generally too adept at such tasks. This mindset is more common than any other I’ve come across in my two decades in this business.

Here, too, I can relate, as I am not adept at making decisions on my own when it comes to subjects I’m not well-versed in. For example, a recent home repair/remodel project was outside of my expertise, so I relied on my best judgment to hire the right professionals to do the job. Fortunately, my new bathrooms came out the better for it.

Finally, perhaps the most important lesson regarding how to invest like a Renaissance man comes down to the Shakespearean premise: “To thine own self be true.” What this means is that knowing yourself, your tendencies as a thinker, as a decision maker and as a risk taker can be your greatest asset.

Conversely, not knowing yourself, not being curious, not being willing to take risks, not seeing things creatively and not always striving to learn can become your biggest liabilities.

To really be successful, you must cultivate a Renaissance man mindset.

Will you encounter failure along the way? I guarantee you will. Will that failure teach you something about yourself? It will… if you let it.

If you want to find out more about how to profit by thinking like a Renaissance man, then I invite you to check out my Successful InvestingIntelligence Report and Fast Money Alert advisory services, today.

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Hemingway’s Whiskey

“Live the full life of the mind, exhilarated by new ideas, intoxicated by the romance of the unusual.”

-- Ernest Hemingway

The pugnacious writer certainly lived a full life, and part of the reason why is because he constantly sought out new ideas and new ways of looking at the world. It is this thirst for experience that was Hemingway’s real whiskey.

Wisdom about money, investing and life can be found anywhere. If you have a good quote you’d like me to share with your fellow readers, send it to me, along with any comments, questions and suggestions you have about my newsletters, seminars or anything else. Click here to ask Jim.

To read my e-letter from last week’s Eagle Daily Investor, please click here. I also invite you to comment about my column in the space provided below my Eagle Daily Investor commentary.

In the name of the best within us,
Jim Woods
Jim Woods
Editor, Successful Investing & Intelligence Report
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