Treasury yield curve is steepening as rates continue to rise, and that's been a bad sign for bank stocks in the past

Higher long-term rates could continue to push the XLF and the banking sector lower over time.

Financial stocks have struggled over the past several weeks, and it's becoming clear the decline may not be over.

The State Street Financial Select Sector SPDR ETF XLF has fallen to a critical technical-support level that appears to be breaking, which could lead to an additional 5% decline on top of the nearly 9% drop it has seen since peaking on Sept. 3.

At first, the flattening yield curve appeared to be contributing to the sector's weakness. Surprisingly, though, the yield curve has started to steepen again, as the 2-year yield BX:TMUBMUSD02Y stabilizes and the 5-, 10- and 30-year BX:TMUBMUSD10Y BX:TMUBMUSD30Y rates continue to rise.

Either the XLF simply isn't reflecting the change in steepness yet, or something else is happening in the marketplace. What stands out is that in the summer of 2023 and early-2025, the financial sector performed poorly when the yield curve steepened. This could indicate the same pattern is repeating, and it is worth a closer look.

Comparing the performance of State Street Financial Select Sector SPDR ETF and the U.S. 10-year/U.S. 2-year spread (in blue) since May 2022.

Breaking down the steepening yield curve

A breakdown of the movement between the 10-year and the 2-year yields shows that when the 10-year rose faster than the 2-year in the summer of 2023, the XLF did poorly. Meanwhile, when the 2-year fell faster than the 10-year in early 2025, the XLF also did poorly. These were two different rate environments, but the outcome was the same. The former may have reflected higher nominal and real yields, along with a higher term premium, which together may have pushed up mortgage rates and other borrowing costs. The latter suggests concerns about an economic slowdown.

The movement we are seeing now in rates is like what we saw in 2023. It could help explain the weakness in banks, which may reflect worries about the damage higher rates could do to future loan growth and, if rates rise too far, the overall economy.

Comparing the XLF (black), the 10-year yield (blue) and 2-year yield (green) since March 2022.

If that is the case, higher long-term rates could continue to push the XLF and banking sector lower over time, because the move in banks appears to be about more than the yield curve.

Technical clues

The technical charts reveal that the financials find themselves in a delicate situation, with the XLF currently breaking below a support level at $53.50 and now facing a potential decline to even lower prices, perhaps even to around $50.75, which would also allow the XLF to fill a price gap in the charts that was created on June 4.

The positive for the XLF is that it is currently oversold, with a relative strength index that has fallen to just 22, while its price has fallen to the lower Bollinger band. That doesn't mean the XLF can't keep falling, but it does suggest a period of consolidation may be approaching, or even a retest of resistance at $53.50.

The RSI, a momentum measure, is seen as entering oversold territory when it falls below 30. And Bollinger bands mark moves of two standard deviations above and below a moving average.

Trading chart for State Street Financial Select Sector SPDR ETF showing Bollinger bands and RSI.

If the weakness seen in the financials has to do with the higher rates and the potential economic impacts that may come with them, then a decline in the 10-year rate or even a pause in its rise may help to slow the decline in the financial names. However, the higher rates go and the longer they stay elevated, the more damage the sector is likely to incur, especially as nervousness likely builds ahead of earnings season.

Michael Kramer is the founder of Mott Capital Management and a long-only investor focused on macroeconomic themes. He analyzes long-term macro trends and short-term market risk using technical analysis, fundamentals and options-market positioning. See here for further disclosures.

-Michael Kramer