The widely expected interest rate hike was announced at the end of the two-day Federal Reserve Open Market Committee (FOMC) meeting yesterday. The federal funds rate, increased for the fourth time this year, now stands at 2.25-2.50%.
Despite this, majority of the finance sector stocks (which usually benefit from higher rates) ended the day in red as broader markets declined. Fears that the central bank’s interest rate hike will hurt the economy dragged the S&P 500, Nasdaq and the Dow Jones to almost near respective 52-week lows.
Besides, the S&P 500 Financial (sector) and the S&P 500 Bank (Industry Group) indexes were down 1.2% and 1.7%, respectively. Further, SPDR S&P Bank ETF KBE declined 2.6%, the SPDR S&P Regional Banking ETF KRE was down 3% and the Financial Select Sector SPDR ETF XLF fell 1.3%.
Also, the Fed signaled one less rate hike for 2019 than what it had projected in September. Now, the central bank expects two rate hikes in 2019, one in 2020 and no rate hike in 2021. Perhaps the markets expected further support from the central bank in terms of rate hikes.
The Fed statement said, “The Committee judges that some further gradual increases in the target range for the federal funds rate will be consistent with sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee's symmetric 2 percent objective over the medium term.”
The sole change from the November post-meeting statement was the addition of “some” to define the trajectory of future rate moves. It now “judges” that rate increases are apt whereas in November's statement it had said it “expects.”
Additionally, the Fed will be monitoring “global economic and financial developments and assess their implications for the economic outlook.” Thus, this reinforces investors’ perception that future rate decision will be highly data dependent.
With expectation of slowdown in global economy, trade war concerns and Brexit-related uncertainty, timing of rate hikes next year and beyond will be difficult to predict.
Additionally, the Fed lowered domestic economic growth projections for 2018 and 2019 to 3% and 2.3%, respectively. In September, the central bank had forecast economic growth of 3.1% for 2018 and 2.5% for 2019.
Banks & Interest Rates
The banking industry benefits the most from rising rates. Banks derive benefits from a steep yield curve (widespread between short and long-terms rates). A rise in short-term rates (to which deposits are tied) helps banks charge more on loans (to which long-term rates are tied), if the long-term rates are higher than the short-term ones. So, banks gain from rising interest rates only if the increase in long-term rates is higher than the short-term ones.
Also, rising rates reflect a solid domestic economy. This implies that credit quality is improving, which is great for banks' profitability as well. In addition, banks are expected to gain from easing of stringent regulatory restrictions and lower tax rates.
Thus, the Fed’s decision of reducing the number of rate hikes in 2019 will slightly dent investor sentiments. Also, lower economic growth projection may hamper banks’ performance to an extent.
However, banks’ measures to boost profitability and higher rates will support growth.
Selecting the Winning Bank Stocks
While all banks will benefit from higher interest rates, to pick a handful of these for your investment portfolio is not an easy task. To make this daunting work somewhat easier, we have taken the help of the Zacks Stock Screener.
Through it, we have shortlisted bank stocks with expected long-term earnings growth rate of 5% or more and market capitalization greater than $2 billion. Also, these stocks carry a Zacks Rank #1 (Strong Buy) or 2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.
Here are the five bank stocks that met the criteria:
Headquartered in Minneapolis, MN, U.S. Bancorp USB has a Zacks Rank #2 and market cap of $76.4 billion. The company’s earnings are expected to grow at a rate of 7.5% over the long term.
Columbia Banking System, Inc. COLB, based in Tacoma, WA, carries a Zacks Rank #2 and has market cap of $2.6 billion. Over the long term, the company’s earnings are projected to increase at a rate of 7%.
With market cap of $4.6 billion, Webster Financial Corporation WBS has a Zacks Rank #2. This Waterbury, CT-based company’s earnings are expected to grow at a rate of 8% over the long term.
Fulton Financial Corporation FULT, based in Lancaster, PA, carries a Zacks Rank #2 and has a market cap of $2.7 billion. The company’s long-term earnings are expected to grow at a rate of 8%.
Zions Bancorporation, National Association ZION has a Zacks Rank #2 and a market cap of $7.8 billion. This Salt Lake City, UT-based company’s long-term earnings are expected to grow at a rate of 8.5%.
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U.S. Bancorp (USB) : Free Stock Analysis Report
Webster Financial Corporation (WBS) : Free Stock Analysis Report
Fulton Financial Corporation (FULT) : Free Stock Analysis Report
Columbia Banking System, Inc. (COLB) : Free Stock Analysis Report
Zions Bancorporation (ZION) : Free Stock Analysis Report
SPDR-KBW REG BK (KRE): ETF Research Reports
SPDR-KBW BANK (KBE): ETF Research Reports
SPDR-FINL SELS (XLF): ETF Research Reports
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