The State of U.S. Bank Stocks in 2023: Bargains and Risks

2023-11-12 14:00:00

Bargain hunters are circling U.S. bank stocks, even as skeptical investors say the sector’s problems are likely to persist for some time.

The S&P 500 banking index is down regarding 11% in 2023, a year that began with the collapse of Silicon Valley Bank and several other lenders in the worst banking crisis since 2008. The broader S&P 500 index , on the other hand, is up regarding 15%.

According to data from BofA Global Research, bank stocks are at an all-time low compared to the S&P 500 in terms of relative prices. This drop has made their valuations attractive to some investors: the sector trades at eight times forward earnings, less than half the S&P 500’s valuation of 19.7.

“Right now, you can’t say with certainty whether attractive valuations are simply a value trap,” said Quincy Krosby, chief global strategist at LPL Financial, referring to a term describing stocks that are good. market for good reason.

A key factor for bank stocks is whether the Federal Reserve is close to ending a cycle of monetary tightening that has resulted in the highest U.S. interest rates in decades.

These high rates allow lenders to charge higher interest to their customers. But they also increase the attractiveness of short-term bonds and other yield-generating investments relative to savings accounts, while hurting demand for mortgages and consumer loans.

Few investors think more rate hikes are on the cards. Still, signs that the Fed may keep rates at current levels for most of next year have weighed on bank stocks. Still, some contrarian investors appear to be turning to the sector: The Financial Select Sector SPDR Fund received net inflows of $694.59 million in the week ending Wednesday, its best weekly result for more than three months.

This month, analysts at BofA Global Research said investors should selectively increase their exposure to bank stocks in anticipation of a spike in interest rates. They say most of the risks for the sector arise from rising rates, including pressure on margins from the rising cost of deposits and issues surrounding commercial real estate.

Famed investor Bill Gross said last week that he believed the sector had bottomed and added that he owned a number of shares of regional banks, which caused their shares to rise sharply.

“We think there’s a lot of hidden value in banks if you’re selective,” said Neville Javeri, a portfolio manager at Allspring Global Investments, which is overweight banks relative to the S&P 500 in the portfolios he manages. .

Mr. Javeri believes that big banks have significantly cut costs and are ready to increase dividends and share buybacks, which will help them weather a period of slowing loan growth.

Among the stocks recommended by BofA analysts are shares of Goldman Sachs and Fifth Third Bancorp.

Investors are awaiting U.S. consumer price data next week to get a glimpse of how the Fed is doing in its fight to continue reducing inflation from multi-decade highs achieved last year. A larger-than-expected cut might prompt the central bank to cut rates sooner.

Many investors and analysts remain pessimistic regarding banking stocks.

Historically high mortgage rates have weighed on credit. According to the Apollo Group, approximately 61% of current mortgages have an interest rate below 4%, providing little incentive for consumers to refinance or move. The average contract rate for a 30-year fixed-rate mortgage fell a quarter of a percentage point in the week ending November 3, to 7.61%, the lowest rate lowest for regarding a month.

Meanwhile, analysts have lowered growth estimates for financial companies, which include not only banks but also insurance companies, as the Fed maintains it will keep rates higher for longer. This might hurt mortgage growth.

The financial sector is expected to post profit growth of 6.2% in 2024, almost half of previous estimates in April which showed profit growth of 11.4%, according to LSEG data.

“You don’t have the confidence that you’ve seen the worst and things are getting better,” said Jeff Muhlenkamp, ​​senior portfolio manager at Muhlenkamp & Company. (Reporting by David Randall; Additional reporting by Bansari Mayur Kamdar; Editing by Ira Iosebashvili and David Gregorio)

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