NEW YORK (Real Money Pro) -- Financial stocks are on the move, as investors assess the impact of higher U.S. Treasury yields.
While the entire banking sector stands to benefit from higher yields, one particular subsector appears to be in the sweet spot. According to the charts, the best is yet to come for small regional banks.
On Tuesday, the SPDR S&P Regional Banking ETF (KRE) broke out of an ascending triangle (see the black lines) to close at a one-year high.
That achievement marked the end of a four-month-long consolidation process. Notice how the ETF is riding up its 50-day moving average (marked in blue), which is providing additional support along the bullish trend line. KRE's moving average convergence-divergence indicator flashed a buy signal on Monday (note the arrow).
Source: All Charts by TradeStation
KRE shares have risen about 10% since early February when the stock was also recommended. The ETF just needs to close above $42.80 to reach an all-time high. The measured move technique, when applied to the ascending triangle, results in a target price of about $44.
How does KRE stack up against larger banks, represented in the following comparison chart by the S&P Select Financial SPDR Fund (XLF)? When compared head to head, it's pretty clear that over the past three months, KRE (marked in blue) has outperformed XLF (indicated in green). Of even greater interest is the way the fortunes of these two ETFs have sharply diverged over the past week (shaded in yellow).
Make no mistake: If you're buying the bigger names in this sector, you're not necessarily wrong. While small banks have recently outpaced their larger counterparts, big banks should also benefit from higher rates.
Doug Kass recently made a convincing argument in favor of banking stocks, citing among other things an increase in the money supply and an acceleration in the velocity of money.
Why is the financial sector set to rally? Treasury yields are near six-month highs, and thanks to their recent surge, the yield curve should finally begin to steepen in a meaningful way. A steepening of the yield curve should translate into greater profits for banks, as they tend to borrow on the short end of the curve and lend on the long end.
The surge in yields could be interpreted several ways: It could be a sign that the economy is about to show considerable improvement or it could mean that inflation is about to resurface. In either case, a sustained move in yields should act as a tailwind for the financial sector going forward.
Editor's Note: This article was originally published on Real Money Pro on May 13 at 9 a.m. EDT.