The Federal Reserve is once again expected to announce an interest rate cut at the end of the two day FOMC meeting scheduled next week. Per the CME FedWatch tool, there is an 88.8% chance that the central bank will cut rates by 25 basis points. Earlier in July, the Fed had cut interest rates for the first time since the 2008 financial crisis.
We know that bank stocks thrive in the rising rate environment. Banks seek to borrow money at short-term rates and lend at long-term rates. As interest rates decline, they earn less on lending. This compresses net interest margin (NIM) — the main indicator of a bank’s profitability.
Moreover, as interest income constitutes a significant portion of their revenues, decline in rates hurts banks’ net interest income growth as well. Hence, a cut in interest rates is bad news for the banking industry and is likely to place the companies in a disadvantageous position.
Adding to this, inversion of the yield curve, which is seen as a harbinger of economic slowdown or even recession, has been hurting banks’ NIM growth over the past few months.
Thus, because of the central bank’s accommodative monetary policy stance, expected global economic slowdown, yield curve inversion and uncertainty related to the trade war and Brexit, investors are shying away from bank stocks of late.
However, the main driving factor for banks’ financials is the overall health of the nation. Despite expectations of a slowdown, the U.S. economy is growing, thereby providing some support to the banking industry as a whole.
Moreover, majority of the banks are making efforts to streamline operations and expand business (organically and inorganically) to diversify footprint and revenue base. In fact, lower corporate tax rates along with easing of stringent regulations will likely support these efforts and hence aid profitability.
Further, banks are undertaking measures to align their businesses for technology driven clients. They are spending substantially on technology to upgrade and add advanced features. This is expected to lower costs and improve operating efficiency, going forward.
Thus, investors will be wrong if they show apathy toward bank stocks solely on fears of rate cut.
In fact, recently, the yield on the 10-year Treasury note increased. Widening of spreads between long and short-term rates along with decent loan growth is expected to provide some support to banks’ top-line growth amid rate cuts. Also, banks’ efforts to focus more on non-interest income are likely to boost top-line growth to some extent.
Hence, it can be said that all is not lost for bank stocks. Investing in bank stocks with robust fundamentals and prospects is a good strategy to earn solid returns.
Choosing the Winning Stocks
With the help of the Zacks Stock Screener, we have selected three stocks from the banking sector that investors can consider based on fundamental strength and solid prospects. These stocks have current-year earnings growth expectation of 12% or more. Also, the stocks have rallied more than 10% over the past three months.
Further, the stocks currently 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 stocks worth considering:
Headquartered in Memphis, TN, First Horizon National Corporation (FHN - Free Report) offers banking as well as investment and advisory services. It has a market cap of $5.11 billion. The company’s earnings are expected to grow 12.8% in 2019. Moreover, its expected earnings growth rate of 2.2% for 2020 ensures the continuation of this upward momentum. Further, the stock, which sports a Zacks Rank #1, has gained 13.9% over the past three months.
Hilltop Holdings Inc. (HTH - Free Report) also has a Zacks Rank of 1. Headquartered in Dallas, TX, the company provides consumer and business banking services through its broker-dealer, mortgage origination and insurance divisions. The stock, with a market cap of $2.27 billion, has rallied 23.9% over the past three months. Its current-year earnings are projected to increase 50% while that for 2020 is estimated to rise 1.4%.
Shares of MidWestOne Financial Group, Inc. (MOFG - Free Report) have gained 11.3% over the past three months. The Iowa City-IA based company provides commercial and retail banking products and services to individuals, businesses, institutional customers and government agencies. Its earnings are expected to grow 20.9% in 2019 and 5% in 2020. The company has a Zacks Rank of 2 at present and a market cap of $497.6 million.
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