Here’s what it will take to turn around the banks, according to two experts

The big banks have been beating second-quarter earnings estimates, but the financials may remain the S&P 500's worst-performing sector unless certain conditions are met.

The first, according to Stifel Nicolaus portfolio manager Chad Morganlander, is that the yield curve needs to normalize. Banks usually borrow in the short term and lend longer term, so a normal yield curve, which has an upward slope, allows them to borrow on lower short-term rates and lend on higher rates long term.

Along the same lines, Morganlander also believes the Federal Reserve needs to step in.

"The critical thing here is the normalization of central banks," he said Monday on CNBC's "Power Lunch." "As the Federal Reserve starts to raise interest rates, albeit they don't need to raise a whole heck of a lot, then that, too, will be a plus for financials."

"With that said, credit quality looks good for the financials sector, the big banks," added Morganlander. "Credit demand here in the United States is starting to pick up a bit. We actually think the financials are undervalued and as a value investor, we would now be accumulating shares."

The financials sector is still the worst-performing sector in the S&P 500 year to date. While the category's big names like Goldman Sachs, JPMorgan and Bank of America have beaten second-quarter earnings estimates, the banks as a group are still down 10 percent this year.

Rates aside, a lot also depends on investor sentiment, and the current outlook still doesn't appear promising as Stacey Gilbert, head of derivative strategy at Susquehanna Financial, observes.

"If we look at it from an ETF perspective, financials have actually seen the largest outflows year to date," she said on "Trading Nation." "You've got about $6.3 billion that have come out, the AUM of financial ETFs is down about 21 percent, which when you include performance, we have not seen any change in sentiment there."

"We don't see any evidence that investors are moving to the ETFs or moving to the options, looking for anything that's going to rebound quickly," she said.


Trades to Watch

Trader Bios


Trading Nation is a multimedia financial news program that shows investors and traders how to use the news of the day to their advantage. This is where experts from across the financial world – including macro strategists, technical analysts, stock-pickers, and traders who specialize in options, currencies, and fixed income – come together to find the best ways to capitalize on recent developments in the market. Trading Nation: Where headlines become opportunities.

Michael Santoli

Michael Santoli joined CNBC in October 2015 as a Senior Markets Commentator, based at the network's Global Headquarters in Englewood Cliffs, N.J.  Santoli brings his extensive markets expertise to CNBC's Business Day programming, with a regular appearance on CNBC's “Closing Bell (M-F, 3PM-5PM ET).   In addition, he contributes to CNBCand CNBC PRO, writing regular articles and creating original digital videos.

Previously, Santoli was a Senior Columnist at Yahoo Finance, where he wrote analysis and commentary on the stock market, corporate news and the economy. He also appeared on Yahoo Finance video programs, where he offered insights on the most important business stories of the day, and was a regular contributor to CNBC and other networks.

Follow Michael Santoli on Twitter @michaelsantoli

Read more