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Bet on These 5 Bank Stocks as Fed Signals Hawkish Stance

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At the end of the two-day FOMC meeting on Wednesday, as expected by the markets, the Fed increased the interest rates to 1.75-2%. Notably, the last time interest rate had topped 2% was in September 2008.

The central bank’s signaling of two more rate hikes this year was the major highlight. This takes the number of expected hikes to four in 2018 from its prior outlook of three.

In the statement, the Fed said, “The Committee expects that further gradual increases in the target range for the federal funds rate will be consistent with sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee's symmetric 2 percent objective over the medium term.”

The minor changes in the statement clearly indicated the Fed’s more hawkish stance on monetary policy. While increasing the interest rates, the Fed indicated that the economy is growing at a ‘solid’ pace, a change from May 2018 statement of economic growth being ‘moderate.’

The changes in the Fed’s statement show that its policy will not likely be “accommodative” any longer.

What Led to the Rise in Number of Rate Hikes?

You might be wondering what changed in the few months that paved the way for increase in the number of hikes this year.

Well, the Fed Chairman Jerome Powell, after the two-day policy meeting said, “The decision you see today is another sign that the U.S. economy is in great shape. Most people who want to find jobs are finding them.”

The two key mandates for rising rates — full employment level and inflation of 2% — have already been almost fulfilled. The current unemployment rate of 3.8% is close to the full employment level. Also, inflation data (moving toward the Fed’s target) supports a further rise in rates.

Apart from these, a slew of favorable economic data, including increase in household spending, improvement in economic activities, stimulus from the tax cuts, rise in consumer confidence and better-than-expected GDP numbers, support this hawkish stance.

Also, the central bank now projects economic growth at the rate of 2.8% for 2018, up from the previous expectation of 2.7%. Notably, the growth rate is anticipated to be 2.4% in 2019 and 2.0% in 2020, unchanged from the earlier guidance.

Further, based on the updated economic projections, the Fed expects inflation to be 2.1% this year, above its target of 2%. The unemployment rate in 2018 is predicted to be 3.6%, down from the prior forecast of 3.8%. Also, it is estimated to decline to 3.5% in both 2019 and 2020, down from the previous projection of 3.6% for both years.

Banks Benefit From Rising Rate Environment

The banking industry benefits the most from the rising rates. Banks derive benefits from a steep yield curve (widespread between short and long-terms rates). A rise in short-term rates (to which deposits are tied) helps banks charge more on loans (to which long-term rates are tied), if the long-term rates are higher than the short-term ones. So, banks gain from rising interest rates only if the increase in long-term rates is higher than the short-term ones.

Also, rising rates reflect an improving domestic economy. And this implies that the credit quality is improving, which is great for banks' profitability as well. In addition, banks are expected to gain from easing of stringent regulatory restrictions and lower tax rates.

These factors have largely led to the rally in the finance sector, benefiting bank stocks the most. Over the past year, the Major Banks and Banks & Thrifts have gained 14.5% and 12.4%, respectively. Both outpaced the 7.8% rise of the Zacks Finance sector.

One-Year Price Performance

Also, as the Fed indicates an increase in number of rate hikes this year, the rally for bank stocks will likely continue. So, if you want to be part of this rally, this is the right time to invest in a few stocks that have strong fundamentals and solid growth prospects.

Picking the Winning Bank Stocks

While all banks will benefit from rising rates, to pick a handful of these for your investment portfolio is not an easy task. To make this daunting work somewhat easy, we have taken the help of the Zacks Stock Screener.

Through it, we have shortlisted bank stocks with expected 2018 earnings growth rate of 30% or more and market capitalization greater than $5 billion. Also, these stocks carry a Zacks Rank #1 (Strong Buy) or 2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Here are the five bank stocks:

Headquartered in Chicago, IL, Northern Trust Corporation (NTRS - Free Report) has a Zacks Rank #2 and market cap of $23.9 billion. The company’s current-year earnings are expected to grow at the rate of 33.1%.

Commerce Bancshares, Inc. (CBSH - Free Report) , based in Kansas City, MO, carries a Zacks Rank #2 and has market cap of $7 billion. For 2018, the company’s earnings are projected to increase at the rate of 30.3%.

With market cap of $6.5 billion, Synovus Financial Corp. (SNV - Free Report) has a Zacks Rank #2. This Columbus, GA -based company’s earnings are expected to grow at the rate of 41.5% for 2018.

Webster Financial Corporation (WBS - Free Report) , headquartered in Waterbury, CT, has a Zacks Rank #2 and market cap of $6.1 billion. The company’s 2018 earnings are expected to grow at the rate of 37.1%.

Wintrust Financial Corporation (WTFC - Free Report) , based in Seattle, WA, carries a Zacks Rank #2 and has market cap of $5.4 billion. The company’s current-year earnings are expected to grow at the rate of 33.4%.

Road Ahead for the Fed

The Fed officials continue to project three rate hikes next year while reducing the number of forecasted interest rate rise to one from two for 2020.

At present, the central bank seems to be at crossroads as it tries to keep a balance between rising interest rates and driving economic growth. Powell said, “I think we are far enough away now though that the risks are kind of balanced. I think it’s more just, we are just looking at the economy and what does it need and how do we sustain the expansion, keep the labor market strong and try to keep inflation near 2 percent.”

For banks, an improving economy and rising interest rates are beneficial. Thus, this will definitely support their profitability in the upcoming quarters.

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