INDEX INTELLIGENCE: BKXThe Bank Index Buckles Under Pressure

Bank stocks are leading the market lower once again this week. The PHLX KBW Bank Sector Index (), which attempted to stabilize during the previous two trading weeks, has suffered a two-day 4.4% decline. The bank index has now erased a big chunk of its previous hard-fought gains from mid-August and its poor performance reflects the ongoing concerns about credit problems that have been weighing on the entire US equity market.  

State Street () was one of the banks in focus Tuesday on reports it is having problems. The talk surfaced early in the day after The Times newspaper in Britain said the bank has considerable credit exposure risk. State Street has been a big player in the asset backed commercial paper market, where a lack of liquidity has raised concerns about future short-term funding needs at State Street and other banks. Consequently, Tuesday’s jitters sent STT shares down $2.72, or 4.3%, to $61.16, despite the company’s attempt to reassure investors.  In a statement, State Street said it continues to sell its commercial paper daily.  

Citigroup () also lost ground after Merrill Lynch lowered its rating on the bank’s shares. Merrill cut Citigroup, and its own Wall Street cohorts Bear Stearns () and Lehman Brothers (), to “neutral” from “buy”. Merrill cited exposure to the debt market as the primary reason for the downgrades. Citigroup shares fell $1.65, or 3.5%, to $46.14 on the news.

Tuesday’s sell-off wasn’t limited to Citigroup and State Street, however. Investors aggressively sold shares throughout the entire bank sector and all 24 components of the PHLX KBW Bank Sector Index lost ground. Among the day’s biggest losers, Bank of New York () fell $2.22, or 5.3%, to $39.70 a share, SunTrust () lost $3.21, or 4%, to $77.88, and National City () lost $1.14, or 4.1%, to $26.95.  

The broad decline sent the Bank Sector Index down 3.4 points, or 3.15%, to 104.29. In addition, the move caused some technical damage on the chart. Figure 1 highlights some of the problems. For one, the index had performed well in mid-August. In fact, it enjoyed a two-day 8.5% rally that pushed the index from an 18-month low near 101 towards (a key resistance level) near 111. That two-day rally occurred amid optimism that the worst was over for the bank sector.

However, rather than break above its previous August high near 111, the index traded in a range for several days before Tuesday’s downside breakdown. That break, in turn, pushed the index below 105 and, in the process, the BKX retraced most of its mid-August gains. In fact, the index has given back or retraced more than 61.8% of that advance. According to the Fibonacci school of thought, a retracement in excess of 61.8% also means the previous move has been negated. In this case, the mid-August advance is negated and therefore the bank index is still in a bear market.

Figure 1: PHLX/KBW Bank Sector Index

Looking forward, the BKX will be worth watching because its action reflects the trends in the credit markets and those problems have been weighing heavily on investor sentiment throughout the broader equity market as well. Tuesday’s news was clearly not consistent with the view that the credit problems have gone away. In addition, the technical damage on the chart suggests that the Bank Index’s August lows might be retested. If so, look for those worries to infect the broader market and for overall levels of volatility to stay high as well.

Frederic Ruffy
Senior Writer & Index Strategist
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