Financial stocks were thought to be the market’s darlings at the beginning of 2018, as a marriage between the Trump administration’s deregulation efforts and an increasingly hawkish Federal Reserve should have created the sector’s picture-perfect environment.

The price action couldn’t have been more different. Financials badly underperformed the broader market in the first half of the year. The financials-tracking XLF[1] has been modestly positive in recent sessions, but only after posting its longest losing streak on record — 13 days.

Some see more pain coming. The technical picture is still rather "cloudy" for the XLF, said Craig Johnson, chief market technician at Piper Jaffray. He told CNBC’s "Trading Nation[2]" why there appears to be pain ahead.

• Despite relatively positive stress test results last week, banks as a group closed lower on the week, and the charts remain dubious. The XLF bounced off support near the $26.50 mark, but it remains to be seen whether the recent bounce can hold.

• Breadth within the sector, or the number of stocks advancing relative to the number of stocks declining, is weak. Just 25 percent of stocks within the financials are trading above their 200-day moving averages, the lowest of any S&P 500 sector.

• This forecast runs contrary to the XLF’s historical performance after posting losing streaks of seven days or more. Piper Jaffray found the XLF has generated positive average and median returns of 6 percent and 2.3 percent, respectively, over the subsequent four weeks.

• Investors should look to small- and mid-cap banks, over large-cap financial stocks, at this juncture, as they appear more constructive when considering their relative strength, momentum and breadth.

Bottom line: The financials have undergone technical damage in recent weeks,...

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