On the whole, banks can be some of the toughest stocks to analyze. There are a couple of key reasons for that. One key reason is that many of their assets -- being largely financial in nature -- can evaporate in a heartbeat as conditions change. For instance, if enough people are unable to pay their debts to a bank, that bank may be forced to increase the amount it writes off as uncollectable. That can force assets to disappear, seemingly by the stroke of a pen.
Another key reason is that money in the bank -- customer deposits -- is actually a financial liability from the bank's perspective. As Silicon Valley Bank found out earlier this year when the fastest bank run in history forced it into receivership, when customers demand their money back en masse, it can cause catastrophic troubles.
Still, despite those difficulties, successful banks can be profitable investments for their shareholders. After all, their business is literally making money by lending out their deposits at a higher interest rate than they pay those depositors.
Fortunately, you don't have to pick a winner in banks to have a great shot at being successful as an investor in that industry. The key reason why is because there are exchange-traded funds (ETFs) that offer relatively low-cost ways to invest in multiple banks at once, without having to figure out which ones are really the most solid.
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Owning multiple banks' shares at once
One such ETF is the Invesco KBW Bank ETF (KBWB 0.23%). That ETF tracks an index that covers banks ranging from national money-center banks through regional ones and smaller thrifts. With a reasonable 0.35% expense ratio, investors get the vast majority of whatever returns the underlying banks generate, while only having to manage a single investment in the ETF itself.
While owning the Invesco KBW Bank ETF won't eliminate the risk of being invested in the next failed bank, it will reduce the impact your portfolio will face compared to a more concentrated position in that bank. While the ETF is not diversified in the typical sense of the term -- it does focus on banks, after all -- it attempts to spread its risks out across those banks.
Even its largest holding represents less than 8.5% of the ETF's assets, which means that if it fails, it will impact the ETF, but that failure alone won't be catastrophic to your overall portfolio. Of course, if the biggest American banks around are actively failing, chances are that we have bigger problems on our hands, but it won't be just a single bank failure that knocks this ETF out.
As you might expect for an ETF that focuses on banks, the Invesco KBW Bank ETF currently offers investors a solid dividend yield of around 4%. Of course, as an ETF, its dividends are essentially passed through based on what the underlying banks are able to pay. Still as banks' confidence improved on the back of successful Federal Reserve stress tests earlier this year, many of them have been able to increase their payments recently.
Those successful Federal Reserve stress tests should also give investors a decent reason to believe that even if not all banks will ultimately survive, the banking system in general is in reasonable shape. That also serves as a decent reason to consider an ETF that covers large parts of the overall banking sector.
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Because it can be hard to know exactly which bank assets are solid until things start going wrong, it's tough to be an investor in individual bank stocks. Yet by owning an ETF that covers the industry, you can get the potential benefits of investing in them while helping mitigate the minefield of risks that you can face when things go wrong with individual banks. Make today the day you consider the switch, and give yourself one less thing to worry about as an investor in the banking industry.