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Dismal Near-Term Prospects for Major Regional Bank Stocks

Swayta Shah

The Zacks Major Regional Banks industry comprises the nation’s largest banks by assets — most having operations worldwide. The financial performance of these banks largely depends on the nation’s economic health. Being involved in a number of complex financial activities, these banks are required to follow stringent regulations set by the Federal Reserve.

In addition to traditional banking services, whichare the source of interest income, major regional banks offer a wide variety of financial services and products to retail, corporate and institutional clients — both domestic and global. The services offered include credit and debit cards, wealth management and investment banking, among others. Therefore, a major source of revenues for these banks is fees and commission earned from these services.

Here are the three major industry themes:

  • Higher interest rates benefit major regional banks considerably, as interest income constitutes the major portion of their revenues. Higher rates also lead to margin expansion. However, the Fed’s dovish stance on interest rate hikes and economic growth will likely hurt banks’ revenue growth. Also, reduced affordability of borrowers (because of higher rates) has been resulting in subdued demand for loans.
     
  • Gradual easing of stringent regulations by the Fed has resulted in increased financial flexibility for these banks. With declining compliance costs, banks are able to utilize the freed-up capital to generate more revenues. Also, relaxation in “qualitative” portion of the capital planning process is a positive for the major banks.
     
  • These banks are investing considerably in Artificial Intelligence (AI) and other digital platforms to improve their online and mobile banking services and ward-off competition from Fintech and other smaller finance sector companies. In fact, some of these banks are already working on providing customized digital services. These efforts will help the banks save time and provide ‘less error’ prone services. However, these technological investments are expected to increase operating costs in the near term.

 

Zacks Industry Rank Indicates Dismal Prospects

The Zacks Major Regional Banks Industry is a 16-stock group within the broader Zacks Finance sector. The industry currently carries a Zacks Industry Rank #153, which places it in the bottom 40% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates continued underperformance in the near term. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of disappointing earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually losing confidence in this group’s earnings growth potential. Since beginning 2019, the industry’s earnings estimates for the current year have been revised downward by 1.8%.

Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and valuation picture.

Industry Underperforms Sector and S&P 500

The Zacks Major Regional Banks Industry has underperformed both the S&P 500 composite and its own sector over the past two years.

While the stocks in this industry have collectively gained 6.4% over this period, the Zacks S&P 500 composite and the Zacks Finance sector have rallied 23.7% and 6.7%, respectively.

Two-Year Price Performance

Industry’s Valuation

One might get a good sense of the industry’s relative valuation by looking at its price-to-tangible book ratio (P/TBV), which is commonly used for valuing banks because of large variations in their earnings results from one quarter to the next.

The industry currently has a trailing 12-month P/TBV of 2.12X. This compares with the highest level of 2.68X, lowest level of 1.44X and median of 2.04X over the past five years. Additionally, the industry is trading at a discount when compared to the market at large, as the trailing 12-month P/TBV for the S&P 500 composite is 11.10X, as the chart below shows.

Price-to-Tangible Book Ratio (TTM)

As finance stocks typically have a lower P/TBV ratio, comparing major regional banks with the S&P 500 may not make sense to many investors. But a comparison of the group’s P/TBV ratio with that of its broader sector ensures that the group is trading at a decent discount. The Zacks Finance sector’s trailing 12-month P/TBV of 2.95X for the same period is way above the Zacks Major Regional Banks industry’s ratio, as the chart below shows.

Price-to-Tangible Book Ratio (TTM)

Bottom Line

The operating backdrop may turn less challenging with the easing of regulatory supervision. Also, the major regional banks will benefit from strategic initiatives and improving economy in the near term.

Nonetheless, the benefits from rising rate environment are expected to lessen in the long run, as competition for deposits increases and Fed remains dovish on the rate-hike front. Also, the support major banks receive from manageable expense levels at present might not continue, as investments in technology and efforts to find new avenues will gradually increase expenses.

Despite the concerns,investors may keep an eye on a few major regional bank stocks given their strong earnings outlook.

None of the stocks in the Zacks Major Regional Bank space currently sports a Zacks Rank #1 (Strong Buy). So, we are presenting two stocks with a Zacks Rank #2 (Buy) and one stock with a Zacks Rank #3 (Hold).

You can see the complete list of today’s Zacks #1 Rank stocks here.

Fifth Third Bancorp (FITB): The stock has gained 1.7% over the past two years. The Zacks Consensus Estimate for current-year EPS has been revised 1.5% upward over the past 60 days. The stock currently carries a Zacks Rank #2.

Price and Consensus: FITB

 

M&T Bank Corporation (MTB): The consensus EPS estimate for the bank, with a Zacks Rank #2, has moved nearly 1% higher for the current year over the past 60 days. The stock has increased 3.5% over the past two years.

Price and Consensus: MTB

 

Bank of America (BAC): The stock of this Zacks Rank #3 bank has risen 22.2% over the past two years. The consensus EPS estimate for the current year has been revised slightly upward over the past 60 days.

Price and Consensus: BAC

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M&T Bank Corporation (MTB) : Free Stock Analysis Report
 
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