Financials and XLF May Have Further to Run with Tax Plan on Horizon

Lower corporate tax rates should unleash growth, perhaps inflationary pressures that lift interest rates, which will provide greater spreads for future loan creation -- all to the benefit of banking stocks and the XLF, writes Mike Paulenoff, host of MPTrader.com.

Financials on Monday responded positively, as expected, to the prospect of tax reform legislation, with names like Bank of America Corporation (BAC), Citigroup Inc. (C) and JPMorgan Chase & Co. (JPM) all gapping up on the open, following by higher closes of between 2 and 3.5 percent.

The SPDR Financial Select Sector ETF (XLF) surged 1.5% to close at 28.00, after gaining nearly 5% last week.

On the attached weekly chart, the XLF has now surged above the top of the 9-year up-channel that originated off of the March 2009 low of 4.77 -- and also has thrust from the convergent, up-sloping 5- and 10-week moving averages, which is a strong technical signal that XLF has entered a new upleg within its longer-term, post-2009 uptrend.

Barring a sudden downside reversal that breaks and sustains beneath 26.50, XLF is poised for upside continuation towards the 29.40/70 area, which represents the upper channel boundary of the advance off of the February 2016 low at 15.86. 

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At Monday’s high of 28.20, XLF is up 78% from the February 2016 low, and will be up 86% if it continues higher towards the 29.40/70 next target.

To be sure, it is very, very late in the “recovery rally” process off of the Financial Crisis low of 4.77 in March 2009. But while the SPDR Dow Jones Industrial Average ETF  (DIA), S&P 500 Index (SPY), and PowerShares QQQ Trust Series 1 ETF (QQQ) have climbed well beyond their respective prior all-time highs, XLF remains 10% off of its June 2007 all-time high at 30.98. As long as XLF remains north of 26.40/50, we should not rule out a seasonally strong, year-end run that attempts to challenge the 2007 high at 30.98. 

In theory, the tax reform legislation, its lower corporate tax rates, should unleash stronger economic growth, perhaps even latent inflationary pressures that lift longer-term interest rates, which in turn will provide greater spreads for future loan creation -- all to the benefit of banking stocks and the XLF.  

See chart illustrating the big-picture technical pattern of the XLF.

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