BNKU Stock (BNKU:NYSEArca) is an Exchange Traded Note ( ETN) issued by the Bank of Montreal (BMO:TO) which tracks the Solactive MicroSectors US Big Banks Index. This fund currently has $147 million in assets under management and an average daily trading volume of 230,732 shares per day. The fund uses leverage to achieve 3 times the returns of the tracked index. Investors have taken a lot of interest in the ETN recently, we’ll look into why in more detail later. The fund tracks the performance of the 10 largest US banks that compose the Solactive US Big Banks Index. These banks are:
- Bank of America
- Goldman Sachs
- JPMorgan Chase
- Morgan Stanley
- PNC Financial Services
- Trust Financial
- US Bancorp
- Wells Fargo
Let’s have a look at why BNKU stock might or might not be a good fit for your portfolio. We’ll analyze the US banking sector’s performance and that of the ETN, as well as refresh what we know about ETNs and how they differ from ETFs.
Difference Between ETNs & ETFs
An Exchange Traded Note is a financial security that is largely comparable to an exchange-traded fund (ETF). Its main difference is that an ETN guarantees to track the returns of an index minus expenses. The fund pays all returns back into the fund daily. They are called notes because they act more like a bond. In fact, they have a maturity date, usually 10 years or longer. At expiry, you will get back all the returns generated by the assets tracked by the fund, minus the expenses. An ETN is a senior unsecured debt obligation. In reality, your credit risk is with the issuer of the note, not the underlying asset. If the issuer were to file for bankruptcy your investment would be at risk. You would be ranked higher than an ordinary shareholder, but behind secured debt holders, when it comes to getting any money back. These funds do not always invest directly in the underlying assets tracked by the fund. They may instead use futures or options to gain exposure to the assets’ returns. If the fund manager does not manage to match the performance of the underlying assets, the issuer will be on the hook for the difference.
Tax Advantage of ETNs
Another feature of ETNs is that you will not be paying any tax on dividends, as you won’t receive any. Investors will have to pay income tax on any revenue received from ETFs that pay dividends to shareholders. With an ETN your dividends go back into the fund. So, you won’t pay any income tax until you sell the shares you hold. This tax feature allows for your returns to grow tax-free, and to be taxed only once you sell your stock.
Specific Characteristics of BNKU Stock
The issue date for BNKU stock was April 05, 2019. As mentioned before, it follows a sub-set index of the US banking sector. As the index only tracks 10 banks it could experience a higher amount of volatility than the wider financial sector. The ETN offers 3 times the exposure to the Solactive MicroSectors US Big Banks Index. Leverage greatly increases your exposure and risk to the underlying assets. This kind of leverage may not be for some lower risk appetite profiles. However, one way to address this factor is by asking yourself, how much exposure do I want in the sector? Once you have that number divide it by 3 and invest accordingly. As you are using 1/3 of the cash to invest in this sector you also free some cash to further diversify your portfolio.
Main Characteristics of BNKU
- Issuer Bank of Montreal
- Investor Fee 95% Per Annum, Accrued Daily
- Daily Financing Rate Fed Fund Rate Plus 1.00%
- Primary Exchange NYSE Arca
- Issue Date April 05, 2019
- Maturity Date March 25, 2039
- ETNs Outstanding 2,500,000
- Issue Price $50
Performance: US Banking Sector
Before the 2007 crisis sparked by mortgage loan failures, the financial sector had outperformed the broader stock market. The chart below compares the S&P 500 Financial Sector index and the Dow Jones Industrial Average (DJIA) index from November 1992.
Source: Yahoo Finance
As we can see the financial sector greatly outperformed the broader stock market in the years preceding 2007. The financial sector was the worst hit by the following onslaught as investors exited the stock market in a panic. Since then, the financial sector has recovered all its lost ground from its peak in 2007. However, it has lagged in a great way when compared to the general stock market. From November 1992 to February 2022 the financial sector gained 524.24%, while the DJIA rose 844.44%. The broad stock index outperformed the financial sector by 320.20%.
Performance: BNKU Stock
The ETN was issued on April 05, 2019. So, it has a rather short history. However, we can see from the chart below some interesting points of its performance. The chart compares BNKU stock to the DJIA since the fund’s inception. The aspect that stands out the most is the greater volatility when compared to the stock market index. In less than a year from inception, the fund had gained a return of 55.57% when it reached an all-time high in December 2019. The ETN then plummeted to a record low in March 2020, producing a loss of 83.99% from its start date. This type of volatile performance seems in line with a security that is tracking a micro-sector and is leveraged by 3 times.
Source: Yahoo Finance
As of Q1 2022,the fund is currently trailing behind the DJIA by 15.18%. However, when we look at the fund’s performance since the bottom of the last stock market selloff in March 2020, we see a different story. The chart below shows the fund’s performance from March 16, 2020, to February 2022, compared to the DJIA. We can see that the ETN has managed a return of 236.04%, while the DJIA has increased by 49.77%.
Source: Yahoo Finance
The subset of 10 big US banks seems to be performing well, and the 3X leverage offered by the ETN is enhancing that performance. As we can see leverage is the element that creates sharp increases and unfortunately sharp drops for this security.
Why the Banking Sector Could be a Good Investment
Inflation seems to be setting in. At the beginning of the sharp price increases in 2021, it looked like inflation might be transitory. However, the price data we are getting continues to rise and the trend has been growing for several months. There are various ways to profit from inflation when investing. However, one aspect to consider is how to tweak your allocation to stocks during a period of high inflation. The consequence for the financial market of inflation is higher interest rates. Apart from the other factors affecting the economy or stocks in general. Higher interest rates are beneficial to banks as they can charge more for their loans and mortgages when compared to low-interest-rate environments. Periods with higher interest rates also tend to account for more lending by banks to consumers.
The chart above shows the fed fund interest rate against the average lending rate for US banks. As we can see the lending rate increases and decreases in line with the fed fund interest rate. More lending from banks to consumers, industry, and homebuyers should be highly beneficial for banks.
Is BNKU Stock a Good Fit for My Portfolio?
In my opinion, securities that can beat inflation and higher interest rates are a good choice to add to your portfolio. Inflation looks like it may continue for some time, not only due to supply chain failure, but also due to rising energy costs. What you should consider is how much risk you are willing to add to your stock portfolio. Remember, if you invest $10,000 in this ETN, your exposure is the same as if you had invested $30,000. If that number is too high for your risk appetite, then trim your investment allocation accordingly. So that your exposure to the risks associated with this fund is in line with your overall portfolio requirements.
Are interest rates going up? The financial market seems to think so. Fed Fund futures as quoted on the CME exchange are pricing in a high probability of an interest rate hike at the Federal Reserve’s next meeting. In the chart below you can see the probability calculation for a hike to a 0.25%-0.50% target rate is over 86%.
Source: CME Group
The fed fund futures have practically already priced in a hike at the next meeting. So, it’s feasible to presume that the stock market has also priced in a hike by now. But more importantly, that hike will almost certainly be the first of a series of hikes. The Federal Reserve has within its mandate keeping inflation at a target of 2%. And we are nowhere close to that. In my opinion, given the inflationary period we are likely to experience over the coming years, having some exposure to the financial sector seems like a good play. However, picking and choosing stocks can be a daunting task. Many companies offer stock-picking services to help with this procedure. You can read more about one of the top-rated stock picking services in this review.