The upcoming bank earnings season is overshadowed by pessimism in the banking sector. Despite positive surprises in the last two quarters, Wall Street remains uneasy about uncertain market conditions for lenders.
This quarter, the focus is on rising bond yields. While banks have been hoping for higher interest rates to improve their lending margins, the Federal Reserve’s aggressive rate hikes over the past 18 months have created unintended consequences.
Just as banks were starting to reap the benefits of higher rates, their funding costs skyrocketed. Moreover, they now have to grapple with the possibility of increased defaults among borrowers, not to mention the significant unrealized losses they are facing in their bond portfolios.
Concerns Over Longer-Term Rates
The near certainty of prolonged higher rates and its negative implications have led analysts at Keefe, Bruyette & Woods to revise their 2024 earnings estimates downward by 3%. As a result, the KBW Nasdaq Bank Index (ticker: BKX) has slumped by more than 20% this year.
Approaching this earnings season with caution, the analyst team acknowledges that merely meeting expectations may trigger a temporary rebound in share prices. However, true confidence in the economy, interest rate trends, and the prospects of the cyclical banking sector thriving in a higher-for-longer environment is essential for sustained interest and positive re-evaluation.
A Challenging Time for the Sector
The past nine months have posed significant challenges for the banking sector. In the first quarter, the collapse of Silicon Valley Bank and Signature Bank sparked investor apprehension. The second quarter brought additional worries about the aftermath of these failures, as well as new regulatory measures aimed at preventing similar incidents.
While these concerns continue to simmer, bond yields have now taken center stage, even though some on Wall Street believe that the fear surrounding them is exaggerated.
Optimistic Outlook for Banks
Erika Najarian, an analyst at UBS, expressed optimism regarding banks within the SPDR S&P Regional Banking ETF (KRE). These banks tend to rely more on interest income compared to their larger counterparts, who also generate a substantial portion of their revenue from fees.
Najarian suggests that assuming we are closer to reaching peak rates, a scenario of higher rates for a longer period followed by a few rate cuts in the second half of 2024 would actually be beneficial for net interest income. Such a situation could provide some relief in deposit trends and mitigate the impact of floating rate asset repricing, with fixed rate assets continuing to experience upward repricing.
Anticipated Financial Results
JPMorgan Chase (JPM), Citigroup (C), and Wells Fargo (WFC) are set to announce their financial results on Friday. They will be followed by Bank of America (BAC), Goldman Sachs (GS), Morgan Stanley (MS), and various regional banks in the following weeks.
At present, Wall Street hopes that these results will exceed expectations.