Bank – Analysts predict that major economies would either stagnate or enter a recession.
As a result, in 2023, investors will defy conventions by flocking to huge bank equities.
The Stoxx Europe 600 Banks index, which includes 42 major European banks, increased by 21% between January and late February.
It exceeded the Euro Stoxx 600, its larger benchmark index, to hit a five-year high.
Yet, the KBW Bank, which tracks 24 of the largest American banks, increased by 4% in 2023, well surpassing the S&P 500.
The two bank-specific indices have risen since their lows in October.
So far, the economic situation is less favorable.
The biggest economies in the United States and the European Union are expected to increase somewhat more than last year.
In the United Kingdom, however, output is anticipated to fall.
Former Treasury Secretary Lawrence Summers believes that a rapid recession poses a risk to the United States at some time.
But, central banks were obliged to hike interest rates as a result of widespread economic weakness and unsustainable inflation.
In any case, it has aided banks by allowing them to earn higher profits on consumer and commercial loans as more money is deposited into savings accounts.
Although interest rate increases have kept big bank stocks stable, fund managers and analysts believe investor and analyst confidence in their capacity to weather economic storms because the 2008 financial crisis has also contributed to the situation.
“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
As major countries’ interest rates rose last year, governments took efforts to contain rising inflation.
The huge increases came after a period of cheap borrowing prices, which began in 2008.
The financial crisis devastated the economy, causing central banks to cut interest rates to historic lows in an attempt to stimulate consumption and investment.
Central banks have done nothing for more than a decade.
Investors seldom gamble on banks in an environment where lower interest rates imply reduced lender profitability.
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, as well as a few indicators of weakness, have changed investors’ views.
Fed Chair Jerome Powell cautioned on Tuesday that interest rates may grow faster than expected.
Read also: Mary Daly thinks more hikes would be beneficial
The increased prospect of shareholder gains has converted investors.
According to Ciaran Callaghan, Amundi’s director of European market research, the average dividend yield for European bank shares is now 7%.
The S&P 500 dividend yield is 2.1%, while the Euro Stoxx 600 yield is 3.3%, according to Refinitiv data.
Also, European bank stocks have risen in the last six months.
According to Thomas Matthews, Capital Economics beat its American rivals 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 said it may be attributed to Europe’s unexpected turn of events.
Wholesale natural gas prices in the region reached a new high in August of last year, but have since fallen down to pre-Ukraine conflict levels.
“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.”
At the present, the European economy is still struggling.
As the economy slows, bank stocks take a blow since bank profits are linked to borrowers’ capacity to repay loans and satisfy consumers’ and companies’ need for further credit.
Banks, on the other hand, are better positioned to sustain loan defaults than they were in 2008.
Authorities proactively enacted legislation mandating institutions to have a significant capital buffer in the event of a loss during the global financial crisis.
Lenders must also have sufficient 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 in 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.
Image source: The Economic Times