Bank Stocks Extend Their Winning Streak
December 30 2017 - 07:29AM
Dow Jones News
By Rachel Louise Ensign
Washington extended a helping hand to banks in 2017, pushing
stocks in the sector higher for a second year in a row.
President Donald Trump's election in late 2016 prompted a surge
in bank stocks on hopes that a tax overhaul and deregulation would
help profits. Now, the tax and regulatory changes are finally
happening, and they are proving a potent antidote to persistently
low long-term interest rates, subdued trading activity and slowing
loan growth.
Investors have grown increasingly confident banks' bottom lines
will be huge beneficiaries of a lower tax rate. The KBW Nasdaq Bank
index rose 16% in 2017. Although shy of the 19% gain for the
S&P 500 this year, the advance puts the bank index's total
increase since the 2016 presidential election at 42%. Nearly all of
the 2017 bank gains occurred in the last four months of the year
when new tax legislation gained steam.
"Investors were first concerned, and then got enthused over
rates, revenues and regulation," said Mike Mayo, a bank analyst at
Wells Fargo & Co.
For much of 2017, bank shares struggled to build on their
postelection gains. The passage of tax-code changes seemed
questionable after health-care legislation efforts failed and
stubbornly low long-term interest rates continued to weigh on
profits. But investors became more optimistic when tax-overhaul
efforts started to seem more likely in the fall.
Banks in the U.S. tend to pay relatively high tax rates, so they
are expected to benefit from the planned cut in the corporate rate.
Goldman Sachs Group Inc. analysts estimated in December that the
measures, which include a 21% corporate tax rate, would boost large
bank earnings by about 13% in 2018.
Bank executives said they expect additional benefits from the
plan. The tax changes will be "good for the economy, good for job
creation and wage growth and all good things will come from that,"
JPMorgan Chase & Co. Chief Financial Officer Marianne Lake said
in December. Many big banks, however, will first have to take a
one-time hit to earnings from the changes.
Also boosting banks is the arrival of new Trump administration
appointees in Washington. Bankers were eager for an end to the
tough regulatory scrutiny of the Obama era, which led to higher
compliance costs and major fines.
In recent months, regulators have started to grant banks a
number of the changes they have long sought, opening the door to
giving more details of annual Federal Reserve stress tests in
advance and revising guidelines that limited some kinds of business
lending.
Federal Reserve rate increases, which continued in mid-December,
also helped profits by enabling banks to earn more on loans. Bank
of America Corp., the second-largest in the U.S. by assets, in the
third quarter posted its highest quarterly profit in six years.
Analysts predict the bank will post annual profit records in 2018
and 2019.
Now, the question is whether bank stocks can sustain gains for a
third year in a row and regain the record level they set before the
financial crisis. Since a slight decline in 2015, the KBW Nasdaq
Bank Index has rallied to within 12% of its record from February
2007. But challenging trading, lending and interest-rate conditions
could stop the index from reclaiming that level in 2018.
Bank of America, Citigroup Inc. and JPMorgan have all said they
expect trading revenue to fall in the fourth quarter due to low
volatility.
Another difficulty is the slowing pace of loan growth. Loans
grew 4.1% from a year earlier near the end of December, down from
7.3% before the election, according to the Federal Reserve. Growth
for business loans has been particularly weak, despite the stronger
economy.
And although banks have benefited from the Fed's tightening,
which involves a key short-term interest rate, longer-term rates
have remained low, threatening future profits. The difference, or
spread, between 10-year and two-year U.S. Treasury debt, a rough
proxy for bank profitability, stood at about 0.5 percentage point
at the end of December, near its lowest level in a decade.
This "flattening" yield curve will become a bigger issue if
banks feel more pressure to pay customers a higher rate on their
deposits. If loan balances aren't growing briskly and the
interest-rate spread is narrow, it is far tougher for banks to
increase lending profits.
Barclays analyst Jason Goldberg projects that lending profit
margins will rise next year, but not as much as they did in
2017.
The flatter yield curve, he says, "will matter at some
point."
Write to Rachel Louise Ensign at rachel.ensign@wsj.com
(END) Dow Jones Newswires
December 30, 2017 07:14 ET (12:14 GMT)
Copyright (c) 2017 Dow Jones & Company, Inc.
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