Is the post-election rally an indication of a rosy future for U.S. Banks, or will it prove to be just a short-term craze? Only time will tell, though the uncertainty-induced market volatility amid the transition to a Trump administration will surely boost banks’ trading revenues. Also, Trump’s bias for higher interest rates and softer regulations might translate into huge benefits for banks in the long run.
However, this is not the sole factor behind the banks’ success. Proactive reorganizing of businesses and reducing pointless expenses, enhanced focus on non-interest revenue sources, technical affluence, slow-and-steady loan growth, support from an improving domestic economy and many more positive factors might turn the tide for banks over time.
In fact, these were the factors that helped banks progress on the earnings front over the last few quarters despite their vulnerability to a flattening yield curve, regulatory hindrance, global growth instability, commodity price recession and the Brexit aftermath.
Banks have learned to take the low-rate environment in stride and have earned significant fundamental strength by reorganizing their business models. Moreover, while global economic uncertainty – fueled by Brexit – is weighing on the prospect of a rate hike, the political changeover and domestic economic recovery will not let monitory policy remain loose for long.
The backdrop is no longer as bad as needed to keep interest rates low for long. Therefore, U.S. banks will undoubtedly get a boost from a rising rate cycle. This, along with the strength in core business earned by passing through regulatory scanners, should help them reach the turning point of consistent growth relatively shortly.
Though the earnings performance over the last few years has failed to garner investors’ confidence, the results depict banks’ efforts in pairing up aggressive actions (like creating new revenue sources) with defensive measures (like expense control) to tide over persistent challenges. Moreover, banks have learnt how to deal with crises, as evident from their sturdy capital structure. They can now dodge pressures from the operating environment more easily.
Banks are trying to reorganize risk management practices to address potential solvency issues from rising interest rates. Asset-quality troubles are also being addressed by divesting segments containing nonperforming assets.
(Check out our latest U.S. Banks Stock Outlook for a more detailed discussion on the fundamental trends.)
Rising Loans and Deposits Bolster Growth Prospects
Political uncertainty resulted in sluggish loan growth for most U.S. banks in the last few months and this trend may continue for some time. But overall demand for loans has been rising for quite some time with recovering domestic economic conditions and easier lending standards. Both business loans and residential mortgages have increased significantly in recent years. Further, the speculation of a higher-rate environment any time soon will drive borrowers to apply for loans well ahead of time, leading to increased demand.
Regulations Strengthen Liquidity Standards
Regulatory changes, in particular the 2010 Dodd-Frank law made systematically important banks self-sufficient (in terms of capital reserves) to endure any further crises. So the likelihood of a bailout is now reduced.
Further, the final rules (issued on Nov 9, 2015) of the Financial Stability Board, which was created by the Group of 20 nations (G-20) to keep banks’ reckless behavior in check, require 30 global systematically important banks (including a number of U.S. mega banks) to maintain a loss-absorbing capacity ratio (capital plus senior debt/total risk-weighted assets) of at least 16% from Jan 1, 2019. The requirement will increase to at least 18% from Jan 1, 2022. This would act as a buffer should any of these banks run the risk of failure.
Though the biggest banks will continue to enjoy low borrowing costs and take bigger risks until these rules are effective, the advantages may wane with time. This will actually make the competitive landscape better for small and mid-cap banks.
Efficiency Efforts to Drive Growth
Along with the adoption of advanced technologies to enhance cyber security, banks are resorting to increased use of analytics to drive efficiency. This could help them to better formulate strategies and enhance the top line of different business segments.
While analytics can elevate their expenses in the quarters ahead, concerted efforts to cut needless expenses should be enough to strike a balance.
Shrinking Problem Banks on FDIC’s List
The second quarter of 2016 marked the 21th straight quarter of decline in the FDIC's "Problem List." The list contained 147 names as of Jun 30, 2016, down from 165 as of Mar 31, 2016. In fact, the current number represents an over 83% decline from the post-crisis high of 888 on Mar 31, 2011.
This undoubtedly reflects improvement, but the number is still high considering the occurrence of the financial crisis nearly eight years back. There were only 76 banks on the Problem List at the end of 2007, just before the crisis.
Considering the recovery witnessed by the economy and stock markets so far, the number of problem banks should have been a lot lower by now. This indicates that the industry is still hassled.
The number of bank failures has nonetheless declined every year since 2010. There have been just five bank failures so far in 2016 compared with eight failures in 2015 (versus 18 in 2014, 24 in 2013, 51 in 2012, 92 in 2011 and 157 in 2010). This number is almost close to the average annual failure rate, which indicates maximum strength in the banking system.
Stocks Worth Buying Right Now
The post-election rally made the valuation of banks relatively expensive, but the factors that the industry is expected to benefit from might lead it to further gains in the near term. While the concerns should not be overlooked, one can consider buying stocks that hold a favorable Zacks Rank.
Here are a few top-ranked bank stocks you may want to consider:
Huntington Bancshares Inc. (HBAN - Free Report) :This Zacks Rank #1 (Strong Buy) stock has gained about 13.6% since the beginning of the year, compared with about 7.9% gain for the S&P 500. The stock’s earnings estimates for the current fiscal year have been revised 4.8% upward over the last 90 days.
Community Bank System Inc. (CBU - Free Report) : This Zacks Rank #1 stock has gained nearly 42% since the beginning of the year. Earnings estimates for the current fiscal year have been revised 0.4% upward over the last 30 days.
Bank of America Corp. (BAC - Free Report) :A 15.7% upward revision in earnings estimates for the current fiscal year over the last 60 days lead to a Zacks Rank #2 (Buy) for this stock. The price of this stock has surged nearly 24% since the beginning of the year.
Comerica Inc. (CMA - Free Report) : This Zacks Rank #2 stock has gained over 48% since the beginning of the year. Earnings estimates for the current year have been revised 9.2% upward over the last 60 days.
The Best Place to Start Your Stock Search
To help you find the most promising stocks in this industry, you are invited to download the full list of 220 Zacks Rank #1 "Strong Buy" stocks – absolutely free of charge. Since 1988, Zacks Rank #1 stocks have nearly tripled the market, with average gains of +26% per year. Plus, you can access the list of portfolio-killing Zacks Rank #5 "Strong Sells" and other private research. See these stocks free >>