A brighter outlook for U.S. banks

U.S. bank stocks have lagged both the broader market and their European peers so far this year, but we see a brighter outlook for the group ahead. Richard explains why it’s time to consider buying U.S. banks.

U.S. banks have lagged the broader market and European peers year-to-date. We believe this trend has turned. We see the group up in the medium term on sustained economic growth, Federal Reserve (Fed) normalization and prospects for deregulation and payouts.

There’s more to U.S. bank stock performance than interest rates, we believe. Higher rates tend to help banks’ profitability, and correlate with better share price performance. But U.S. bank stocks (green line in the chart below) shot up in late June even as the expected change in the federal funds rate (blue line in the chart below) slumped. Why? An annual stress test had cleared the biggest U.S. banks, raising investor hopes for more stock buybacks and dividend payouts.

38202_BII_COTW_092617_v3_blog

We see three areas of support for U.S. banks: a gradually steepening yield curve, possible deregulation and increased payouts. The Fed’s efforts to shrink its balance sheet and normalize rates is likely to cause the yield curve to steepen. We think investors are still underestimating the potential for rates to move up and the yield curve to steepen, both critical to banks’ profitability. Our BlackRock GPS supports this view, signaling sustained above-trend growth and suggesting recent weakness in inflation will prove transitory. U.S. regional banks stand out as potential beneficiaries, as they tend to have a greater share of their business in traditional banking services such as loans and deposits than the larger competitors. Another potential help: a looser regulatory grip from Washington. The key for deregulation to move forward will be the confirmation of the Fed’s top banking regulator and his immediate guidance on priorities. Filling the vacancies in related government agencies will also be instrumental for deregulation to gain traction.

Analysts expect U.S. bank earnings to grow 12.8% in 2018. We see scope for this number to improve. Global banks as a group are trading at a bigger discount to the broader market than their 10-year average, with U.S. banks discounted by 24% compared to 5% for European banks. Eurozone banks wrestle with negative interest rates, making them less attractive than U.S. peers. We currently have little appetite for Japanese banks despite their appealing valuations given easy Bank of Japan policy.

To boot, banks largely passed a key Fed hurdle this June for returning capital to shareholders, setting the stage for buybacks and dividends. Our bottom line: We see opportunities in U.S. bank stocks in the medium term. Read more market insights in my Weekly Commentary.

Richard Turnill is BlackRock’s global chief investment strategist. He is a regular contributor to The Blog.

Listen to Richard Turnill and Jeff Rosenberg talk about BlackRock’s midyear investment outlook on the inaugural episode of our podcast, The Bid.

Investing involves risks, including possible loss of principal. Concentrating investments in specific industries, sectors, markets or asset classes may underperform or be more volatile than other industries, sectors, markets or asset classes and than the general securities market.   

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of September 2017 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader.

©2017 BlackRock, Inc. All rights reserved. BLACKROCK is a registered trademark of BlackRock, Inc., or its subsidiaries in the United States or elsewhere. All other marks are the property of their respective owners.

266891