Bank stocks got off to a rough start this year as investors began to question whether the Federal Reserve would raise interest rates on signs of economic and market weakness. Lower interest rates can lead to lower earnings for financial institutions.
That selling was overdone because banks are actually quite healthy, according to an analysis by asset manager Investor that was posted on Seeking Alpha
“The markets' sharp price movement is largely driven by sentiment and is not indicative of overall weakness in the U.S. banking sector,” says Invesco. “The U.S. banking sector is likely to strengthen over the next few years.”
The Financial Select Sector SPDR fund that holds banking stocks fell as much as 17 percent between Dec. 31 and Feb. 11 before bouncing back somewhat. It was down 5.6 percent year-to-date through March 11
Invesco cites three reasons for banking strength.
- Increased domestic and international regulation: After the financial crisis of 2008 and 2009, regulations were passed to address the weaknesses in the financial system that ultimately led to several large banks failing and others requiring ‘bail-outs’ from taxpayers. Such regulation has led to improvements in bank capital and liquidity levels, funding profiles, reduced debt and to an increase in the capital that banks hold to absorb losses in times of extraordinary financial stress.
- Improved funding structures: The way banks fund themselves, or access the money they use to make loans and manage their operations, is more stable. During the crisis, creditors were unwilling to lend to the banks, creating a funding crisis for banks like Lehman Brothers Holdings Inc. that lost the ability to access short-term funding in the open market. Banks decreased their use of debt to fund themselves from about 23 percent in 2008 to 11 percent by 2015. They also hold greater amounts of cash.
- Solid loan quality: Key economic indicators have improved substantially since the financial crisis, including household debt. Stronger underwriting standards since the financial crisis should allow banks to weather any weakening in asset quality during a period of economic slowing.
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