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Financial Funds Fall Down Wall of Worry

The last thing new borrowers and their bankers want to see is higher interest rates. Bad news: Refinancing to avoid foreclosure is getting even more difficult.

On Thursday, the yield on 10-year U.S. government debt reached the pinnacle of a three-month, 94-basis-point rise. This benchmark closing at 4.2108% is up 17 basis points for the week and at its highest level this year. A basis point is 1/100th of a percentage point.

The elevated interest rates are not good for stocks, especially the financials. While the S&P 500 slipped 4.53% for the five trading days ending Thursday, June 12, the Dow Jones U.S. Financial Sector index dropped 7.14%.

When that financial-sector index, with about 250 members, is compared to the KBW Bank Index of 24 national money center banks and large regional institutions, we can focus in on the problem. The KBW Bank Index was nearly decimated, at -9.37% for the period, knifing down to its lowest level since October 2002.

Excluding the funds selling short the sector, the average financial fund we track lost 6.74% this week.

The Mortgage Bankers Association characterized pending foreclosures as being at the worst level in 30 years. Mortgage Insurance Companies of America witnessed two borrowers becoming delinquent for each one catching up on payments in April.

RealtyTrac estimated that one out of every 483 U.S. homes are in foreclosure. Plus, the level of foreclosures was 48.3% higher in May 2008 than the year-ago figure. In Florida, 1 in 228 households entered foreclosure in May, a rate only exceeded by 1 in 201 from Arizona, 1 in 183 in California, and worst of all, 1 in 118 in Nevada.

Today's report of the consumer price index rising 0.6% for the month of May to a year-over-year reading of 4.2%, nearly half of which is food and energy, further strains tight household budgets. To make matters worse, the U.S. Labor Department's unemployment rate popped up to 5.5% from 5% last month.

The worst performing fund this week is the Ultra Financials ProShares (UYG), down 13.72%. The fund is 200% leveraged to the Dow Jones U.S. Financials Index, while the third-place ProFunds Financials UltraSector ProFund (FNPIX) lost 10.53% being 150% leveraged to the same index.

No index member fell more than KeyCorp (KEY), plunging 34.71%. KeyCorp cut its dividend -- the first cut after 43 consecutive years of increases.

The next two largest losses, of 26.47% and 23.64%, came from MGIC Investment Corp (MTG), the biggest U.S. mortgage insurer, and PMI Group (PMI), the largest bond insurer, on downgrades from Fitch. Financial guarantors, as a subgroup of financial insurance stocks within the index, fell an average of 17.37%, more than any other subgroup.

The second-worst-performing fund, ProFunds Banks UltraSector ProFund (BKPIX), lost 12.54% for the period under review.

The fund allocation is 65.9% banks, including 14.1% Bank of America (BAC) and 7.7% Wells Fargo (WFC), and 29.4% diversified financial service companies including 11.4%JPMorgan Chase (JPM) and 10.3% Citigroup (C).

On top of a loss in KeyCorp, this 150% Dow Jones U.S. Banks Index leveraged fund lost 24.47% in FirstFed Financial (FED), 23.24% in Citizens Republic Bancorp (CRBC) and 22.88% in Washington Mutual (WM).

The Citizens Republic loss came on the completion of a dilutive share offering. The WaMu fall coincided with UBS analyst Eric Wasserstrom's prediction of cumulative mortgage loan losses for the next three years, exceeding the high side of company estimates, pushing back a return to "profitability until 2010 or later."

Excluding the one unrated fund, all of the funds on our worst-performing list have ratings of D+ or lower, signifying a recommendation of sell.

Worst Performing Financial Funds for the Week Ending Thursday June 12
Fund Ticker Rating Fund Type 1 Week Total Return
Ultra Financials ProShares UYG E- ETF -13.72%
ProFunds Banks UltraSector ProFund BKPIX E- Open-End -12.54%
ProFunds Financials UltraSector ProFund FNPIX E- Open-End -10.53%
iShares Dow Jones US Regional Banks Index Fund IAT D- ETF -9.65%
Morgan Stanley Financial Services Trust FSVAX E- Open-End -9.42%
KBW Bank ETF KBE D- ETF -9.16%
First Trust/Gallatin Specialty Finance and Financial Opportunities Fund FGB U Closed-End -9.14%
Rydex Series - Banking Fund RYKAX E- Open-End -8.89%
Senbanc Fund SENBX E- Open-End -8.68%
John Hancock Bank and Thrift Opportunity Fund BTO D+ Closed-End -8.68%
KBW Regional Banking ETF KRE D- ETF -8.63%
Source: Bloomberg & TheStreet.com Ratings

The only financial fund we track with a positive return this week is the UltraShort Financials ProShares (SKF), up 14.01% with 200% negative leverage to the Dow Jones U.S. Financials Index.

The fund losing the least was the Royce Financial Services Fund (RYFSX), off just 2.70%. The fund's best holding was Hilb Rogal & Hobbs (HRH), popping 40.62% this week on a $2.1 billion buyout of this insurance broker from the Willis Group that may signal the beginning of increased merger and acquisition activity within the sector.

Best Performing Financial Funds for the Week Ending Thursday June 12
Fund Ticker Rating Fund Type 1 Week Total Return
UltraShort Financials ProShares SKF C- ETF 14.01%
Royce Financial Services Fund RYFSX C- Open-End -2.70%
PowerShares Dynamic Financial Sector Portfolio PFI D ETF -3.41%
PowerShares Dynamic Insurance Portfolio PIC D ETF -3.44%
PowerShares Financial Preferred Portfolio PGF D+ ETF -3.59%
Legg Mason Partners Financial Services Fund SFSLX U Open-End -3.80%
iShares Dow Jones US Insurance Index Fund IAK D ETF -3.85%
Franklin Mutual Series Fund Inc - Mutual Financial Services Fund TEFAX E+ Open-End -3.92%
Fidelity Select Insurance Portfolio FSPCX E+ Open-End -4.29%
KBW Insurance ETF KIE D ETF -4.35%
Source: Bloomberg & TheStreet.com Ratings

For more on the banking industry, check out these articles by TheStreet.com Ratings' Bank Analyst Philip van Doorn.

For an explanation of our ratings, click here.

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Kevin Baker became the senior financial analyst for TSC Ratings upon the August 2006 acquisition of Weiss Ratings by TheStreet.com, covering mutual funds. He joined the Weiss Group in 1997 as a banking and brokerage analyst. In 1999, he created the Weiss Group's first ratings to gauge the level of risk in U.S. equities. Baker received a B.S. degree in management from Rensselaer Polytechnic Institute and an M.B.A. with a finance specialization from Nova Southeastern University.

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