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Major Regional Banks Stock Outlook: Prospects Look Bright

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The Zacks Major Regional Banks industry comprises the nation’s largest banks by assets— most having operations worldwide. The financial performance of these banks is largely dependent on the nation’s economic health. Being involved in a number of complex financial activities, these banks are required to follow stringentregulations set by the Federal Reserve.

In addition to traditional banking services, which are the source of interest income, major regional banks offer a wide variety of financial services and products to retail, corporate and institutional clients — both domestic and global. Services offered include credit and debit cards, wealth management and investment banking, among others. Therefore, a major source of revenues for these banksis fees and commission earned from these services.

Here are the three major themes in the industry:

  • Rising interest rates benefit major regional banks considerably, asinterest income constitutes a significant portion their revenues. After facing pressure on net interest margins for years owing to the near-zero rates (following the 2008 financial crisis), the Fed has increased rates eight timessince December 2015. While a higher rate environment is benefiting these banks through margin expansion, reduced affordability of borrowers is leading to a subdued demand for loans.
  • The stringent regulations implemented by the Fed following the 2008 financial crisis significantly reduced the financial flexibility of these banks for a long period, but they are regaining business flexibility with the gradual easing of these regulations. A decent relaxation of regulations for big banks with more than $250 billion in assetsappears in the cards, following the central bank’s latest proposal. Thus, compliance costs will come down andbanks will be able to utilize the freed-up capital to generate more revenues.
  • These banks are significantly investing in Artificial Intelligence (AI) and other digital platforms to improve their online and mobile banking services. In fact, some of these banks are working on providing customized digital services to clients. Though still at a nascent stage, Bank of America’s (BAC - Free Report) Erica and JPMorgan’s (JPM - Free Report) Contract Intelligence ‘COIN’ are the steps in this direction. These initiatives will help the banks save time and provide ‘less error’ prone services. Moreover, AI and digital offerings are expected to gradually reduce operating expenses.

Zacks Industry Rank Indicates Brighter Prospects

The Zacks Major Regional Banks Industry is a 16-stock group within the broader Zacks Finance sector. The industry currently carries a Zacks Industry Rank #71, which places it at the top 28% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates continued outperformance in the near term. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the top 50% of the Zacks-ranked industries is a result of solid earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually gaining confidence in this group’s earnings growth potential. In the past year, the industry’s earnings estimates for the current year have been revised upward by 14.1%.

Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and valuation picture.

Industry Outperforms Sector and S&P 500

The Zacks Major Regional Banks Industry has outperformed both the S&P 500 composite and its own sector over the past two years.

While the stocks in this industry have collectively gained 36.9% over this period, the Zacks S&P 500 Composite and the Zacks Finance sector have rallied 30.2% and 20.1%, respectively.

Two-Year Price Performance

Industry’s Valuation

One might get a good sense of the industry’s relative valuation by looking at its price-to-tangible book ratio (P/TBV), which is commonly used for valuing banks because of large variations in their earnings results from one quarter to the next.

The industry currently has a trailing 12-month P/TBV of 2.25X. This compares to the highest level of 2.68X and median of 2.02X over the past five years.Additionally, the industry is trading at a discount when compared tothe market at large, as the trailing 12-month P/TBV for the S&P 500 composite is 10.29X, as the chart below shows.

Price-to-Tangible Book Ratio (TTM)

As finance stocks typically have a lower P/TBV ratio, comparing major regional banks with the S&P 500 may not make sense to many investors. But a comparison of the group’s P/TBV ratio with that of its broader sector ensures that the group is trading at a decent discount.The Zacks Finance sector’s trailing 12-month P/TBV of 3.43X for the same period is way above the Zacks Major Regional Banks industry’s ratio, as the chart below shows.

Price-to-Tangible Book Ratio (TTM)

Bottom Line

The benefits from rising rate environment are expected to lessen in the long run as competition for deposits increases. Also, the support major banks receive from manageable expense levels at present might not continue, as investments in technology and efforts to find new avenues will gradually increase expenses.

However, major regional banks will benefit from strategic initiatives, favorable operating environment and improving economy in the near term. Further, the operating backdrop may turn less challenging with the easing of regulatory supervision. So, it could be a good idea to bet on a few major regional bank stocks that have a strong earnings outlook.

None of the stocks in the Zacks Major Regional Bank space currently sports a Zacks Rank #1 (Strong Buy). So, we are presenting three stocks with a Zacks Rank #2 (Buy) that investors may consider betting on now.

You can see the complete list of today’s Zacks #1 Rank stocks here.

Citigroup (C - Free Report) : The stock of this New York-based big bank has gained 36.6% over the past two years. The Zacks Consensus Estimate for the current-year EPS has been revised 1.5% upward over the past 30 days.

Price and Consensus: C

JPMorgan: The consensus EPS estimate for this New York-based bank has moved 1.2% higher for the current year, over the past 30 days. The stock has surged 59.4% over the past two years.

Price and Consensus: JPM

U.S. Bancorp (USB - Free Report) : The stock of Minneapolis, MN-based bank has risen 18.3% over the past two years. The consensus EPS estimate for the current year has been revised nearly 1% upward over the past 30 days.

Price and Consensus: USB

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