Trader: Banks

The debate over the UK banking sector is polarising along the lines of audiences in The Jeremy Kyle Show. In one camp are the unfortunates: banks that have to rely on state handouts. In the other are the smug banks that spurned government help. They are now self-righteously contrasting themselves with their dependent peers, to justify resuming paying huge bonuses to their employees.

But, in spite of what the “virtuous” banks maintain, they are also benefiting from the existence of government safety nets, as well as indulgence from regulators. If the recovery proves less sturdy than many expect currently, those institutions may in time require more direct sustenance from the state. In that event, the outlook for their lesser brethren would be bleaker still.

Although the UK stock market has just powered to new highs for 2009, the FTSE 350 banking sector’s peak for the year to date occurred in mid-September. Admittedly, its falls since seem like a correction rather than the start of a new downtrend. So, while I am interpreting the bounce this year as a giant bear market rally, there is a good chance it could extend further.

My Elliott-wave reading allows for the banking sector to break above September’s peak at 5,329. A stiff barrier just above there is the 21-month exponential moving average, currently at 5,373. A series of Fibonacci targets then occur at 5,452, 5,555 and 5,626. Reversals at one of these levels would represent opportunities for cautious short selling. A failure of weekly momentum to confirm the next price peak would strengthen the case for a bigger top.

Once the rally that started in March ends conclusively, however, I expect the banking sector to lead the stock market lower, just as it did in the first stage of the crisis. The banks are due at least one more major leg down, which ought to take them below their springtime nadir at 1,877. A thrust down through 4,679 and then 3,641 would confirm this was underway.