Bank stocks – Analysts predict that major economies will either slow or enter a recession.
As a result, investors are breaking with traditions and flocking into major bank stocks in 2023.
The Stoxx Europe 600 Banks index, which includes 42 major European banks, increased by 21% between January and late February.
It reached a five-year high, surpassing its larger benchmark index, the Euro Stoxx 600.
Nevertheless, the KBW Bank, which tracks 24 of the largest American banks, increased by 4% in 2023, significantly surpassing the S&P 500.
The two bank-specific indices have risen since their lows last October.
The economic situation, on the other hand, is less favorable.
The largest economies in the United States and the European Union are expected to develop slowly in comparison to last year.
Meanwhile, output in the United Kingdom is likely to fall.
Former Treasury Secretary Lawrence Summers believes that a rapid recession at some time is perilous for the United States.
But, due to widespread economic weakness and excessive inflation, central banks were obliged to hike interest rates.
In any case, it has benefited banks by allowing them to earn higher profits on loans to consumers and companies as savers deposit more money into their savings accounts.
Although rate rises have kept large banks’ equities stable, fund managers and analysts say that investors’ and analysts’ faith in their capacity to weather economic storms since the 2008 global financial crisis has also played a role.
“Banks are, generally speaking, much stronger, more resilient, more capable to [withstand] a recession than in the past,” said Roberto Frazzitta, the global head of banking at Bain & Company.
Interest rate increases
While interest rates in major nations rose last year, officials initiated initiatives to combat rising inflation.
The sharp increases came after a period of cheap borrowing prices that began in 2008.
The financial crisis devastated economics, leading central banks to cut interest rates to record lows in order to encourage consumption and investment.
Central banks have not moved for more than a decade.
Investors seldom gamble on banks in an environment where lower interest rates imply reduced lender profits.
According to Thomas Matthews, senior markets economist at Capital Economics:
“[The] post-crisis period of very low interest rates was seen as very bad for bank profitability, it squeezed their margins.”
But, the rate hike cycle beginning in 2022, along with a few signals of softening, altered investors’ projections.
Fed Chair Jerome Powell suggested on Tuesday that interest rates might climb faster than expected.
Investors have been pulled back because of the increased potential shareholder returns.
According to Ciaran Callaghan, Amundi’s head of European market research, the average dividend yield for European bank stocks is now at 7%.
According to Refinitiv statistics, the dividend yield on the S&P 500 is now 2.1%, while the Euro Stoxx 600 is 3.3%.
Furthermore, European bank equities have risen dramatically in the last six months.
Thomas Matthews ascribed Capital Economics’ outperformance to American counterparts because interest rates in nations that use euros are closer to zero than in the US, implying that investors have more to gain from rising rates.
He also mentioned that it may be attributed to Europe’s astonishing turn of events.
Wholesale natural gas prices in the region reached a record high in August of last year, but have subsequently fallen to levels prior to the Ukrainian war.
“Only a few months ago, people were talking about a very deep recession in Europe compared to the US,” said Matthrew.
“As those worries have unwound, European banks have done particularly well.”
Presently, the European economy is still struggling.
Bank stocks are difficult to hit when economic activity slows because bank earnings are tied to borrowers’ capacity to repay loans and satisfy consumers’ and companies’ thirst for more credit.
Banks, on the other hand, are better positioned to withstand loan defaults than they were in 2008.
During the global financial crisis, authorities proactively implemented regulations requiring institutions to maintain a significant capital buffer against future losses.
Lenders must also have adequate cash (or fast convertible assets) to repay depositors and other creditors.
According to Luc Plouvier, senior portfolio manager at Dutch asset management firm Van Lanschot Kempen, banks have undergone structural changes during the last decade.
“A lot of the regulation that’s been put in place [has] forced these banks to be more liquid, to have much more [of a] capital buffer, to take less risk,” he noted.
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