By Jacob Sonenshine

Financial stocks are showing signs of life, and it could be a pretty good life if one or two key factors swing their way.

The sector endured a rough patch this year, with private credit concerns for money managers. There was also a mild oil shock, stoking additional inflation and rising short-term interest rates.

The latter has caused the yield curve to shrink. Higher short-term rates, meant to tamp down inflation and economic demand, have caused a smaller increase in long-term rates, so bank revenue from long-term lending grows more slowly than short-term funding costs, pressuring profit margins.

That is why the State Street Financial Select Sector SPDR Exchange-Traded Fund -- home to the largest U.S. banks, life insurance companies, asset managers and other institutions -- dropped 15% from just over its $56 high early this year to the Iran-driven low in March.

The fund has recovered since that low, and is up about 5% in the past month to $53 now, beating the S&P 500's 2% gain.

Sure, it helps that investors have taken profits in technology stocks and moved into other sectors, but that rotation happened for a reason. With a potential peace deal in Iran, and oil and yields down from peaks, stock investors are more confident in the profit outlook for financials.

Recent initial public offering activity is also helping. SpaceX's $75 billion capital raise last week translated into $500 million of aggregate fees for the investment banks that took the company public. That is a small percentage of the banks' total annual revenues, but with the AI boom and coming IPOs from OpenAI and Anthropic, the market reflects higher investment banking revenues and even sales and trading fees for the large banks.

All told, if the ETF breaks above its high, it would look much more likely to sustain a longer-term run higher. A breakout would indicate buyers are coming in at higher price points where they previously sold, indicative of a positive change in the outlook for the sector.

Positive change is in the cards. As long as the yield curve doesn't worsen -- and now that the bond and federal funds futures markets expect slightly lower rates versus last week -- bank profit margins could increase.

That is especially true as financials have been one of the heaviest AI users, allowing them to eliminate costs, with AI doing a lot of leg work to assess borrower and insurance customer risk.

That is partly why profit margins and earnings can rise. Analysts expect 9.5% annual revenue growth in aggregate for the ETF from the end of this year through 2028, according to FactSet.

Don't forget, overall loan growth was almost 9% in 1997, according to UBS analysts, even after a interest-rate hike in the middle of that economic expansion. The combination of sales and operating margin growth can spur 23% annual EPS growth.

That growth, as long as the companies meet or beat it, can boost the stocks.

They look cheap. The ETF trades at just under 15 times next 12 months' earnings, almost a third below the S&P 500's 21 times. The difference in the price/earnings multiples is capable of slimming. It has sometimes been about a 17% discount in the past five years, meaning a substantially lower financials multiple from here looks unlikely, so higher earnings would pump the fund upward.

That is why folks could sprinkle a few dollars into the fund. Buying exclusively the private credit and equity asset managers such as Blue Owl Capital, Apollo, or Blackstone, comes with its own risks. Buying exclusively Goldman Sachs, Morgan Stanley, and JPMorgan Chase means buying stocks that have raced to new records and have already outperformed the sector in the past month. They are vulnerable to downside from disappointments.

The entire financials fund, conversely, is diversified, and many of its stocks can gain. In addition to some of those marquee names mentioned above, it owns regional banks, which see more of their revenue tied to lending, so they could benefit from a Fed cut. It also owns MetLife and Prudential, which can trade higher as the market anticipates continued job growth and therefore insurance customer growth.

Buying financials means owning companies with plenty of profit growth potential -- and owning names that can sometimes go up when highflying tech stocks go down.

"The rotation into...financials suggests investors are finding opportunities beyond large-cap tech," writes Anthony Saglimbene, Ameriprise Chief Market strategist.

Expect that trade to keep re-emerging.

Write to Jacob Sonenshine at jacob.sonenshine@barrons.com

This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.

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June 15, 2026 18:04 ET (22:04 GMT)

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