Bank stocks ended November on a hot streak even as regulators offered fresh warnings about risks still facing the industry.
Two major indexes tracking the banking industry closed Thursday with their best monthly returns in some time.
The KBW Nasdaq US bank index (^BKX) and the KBW Nasdaq US regional bank index (^KRX) surged roughly 15% and 12%, respectively, during November, outperforming major stock indexes that track the larger market.
The returns put the regional bank index at its best monthly performance since July while the wider bank index showed its highest gain in close to three years (February 2021).
What has investors excited are expectations that the Federal Reserve could be done with its interest rate hikes and could start cutting rates early next year, narrowing the chance that the US economy will be pulled into a recession in 2024.
Bond yields are also falling, alleviating some of the pressure of higher borrowing costs. And mortgage rates dropped for the fifth straight week.
Yet there were several signs this week of the many challenges facing a banking industry that is still recovering from a panic triggered by the failures of several sizable regional lenders.
One such reminder came from the Federal Deposit Insurance Corporation, which put out its quarterly assessment of the industry on Wednesday. That report showed that bank profits slowed in the third quarter due to higher funding costs and more money lenders set aside to cover future loan losses.
"The banking industry still faces significant downside risks" from inflation, high rates, and geopolitical uncertainty, FDIC Chair Martin Gruenberg said Wednesday. "These issues could cause credit quality, earnings, and liquidity challenges for the industry."
All of these challenges are forcing many banks to shrink by shedding loans, investments, or even workers.
Major credit card bank Discover Financial (DFS) said Wednesday that it will cease offering student loans and plans to sell its existing portfolio. Its stock was up more than 4% Thursday.
Then Toronto Dominion Bank (TD), Canada’s second-largest bank, announced Thursday that it will reduce its head count by 3% or approximately 3,000 workers and that it was setting aside more funds than analysts expected for potential loan losses. Its stock dropped slightly Thursday.
Another problem that showed up this week in the FDIC’s report was that more loans are going bad at banks, particularly those linked to commercial office space in major metropolitan areas.
The total sum of non-owner-occupied commercial real estate loans that are 90 days or more past due rose 36.4% from the second quarter to the third.
The percentage of those loans that are past due is now the highest since the third quarter of 2014.
"Deterioration in the industry’s commercial real estate portfolio is beginning to materialize in office properties," Gruenberg said.
Even though bank stocks are up this month, they are still well below where they were at the beginning of the year.
Year to date the KBW Nasdaq US bank index and the KBW Nasdaq US regional bank index are each down roughly 16%, trailing the S&P 500's nearly 19% advance.
The underperformance during the second half of 2023 is due in part to investor concerns about looming credit risk, according to Tim Coffey, a bank analyst with Janney Montgomery Scott. That could change if rates decline.
“If rates keep coming down, that's verification that we're in for a soft landing and if that's the case, fundamentally, you can start taking some of the credit risk out that's already priced into these bank stocks,” Coffey told Yahoo Finance.
David Hollerith is a senior reporter for Yahoo Finance covering banking, crypto and other areas in finance.
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