A sudden increase in bond yields on Tuesday has raised concerns for bank stocks, leading to a deeper decline compared to the broader market.
Impact of Rising Rates
Tim Coffey, an analyst at Janney Montgomery Scott who focuses on regional banks, commented on the situation, stating that the rise in rates is not a positive development.
The longest-dated yield in the Treasury market, valued at around $25 trillion, experienced a significant upward movement on Tuesday, reaching nearly 5%. This puts it on track to reach the highest levels since the period before the 2007-2009 recession, along with its 10-year counterpart.
Performance of Bank Stocks
The Financial Select Sector SPDR (XLF) witnessed a 1.9% decline on Tuesday, exceeding the 1.6% drop in the S&P 500. Within the financial sector, it was the third-worst performer among the 11 subsectors in the index. Notable declines were seen in Charles Schwab Corp. (-4.6%), Synchrony Financial (-4.17%), Goldman Sachs Group Inc., and T. Rose Price Group (-4.22%).
Currently, the XLF has experienced a 5.5% loss in value in 2023, in contrast to the S&P 500’s 10% gain.
Other indexes also showed negative movement on Tuesday, with the KBW Nasdaq Index (BKX) and the SPDR S&P Regional Banking ETF (KRE) both falling by 2.1%.
Impact on Bank Bond Portfolios
As bond yields rise, bond prices fall, creating a negative effect on the fair value of bank bond portfolios compared to their initial purchase value. This dynamic further adds pressure to bank stocks as they reassess the carrying value of their bond holdings.
Despite these challenges, banks will need to navigate the changing market conditions to secure their financial stability.
Rising Yields and Their Impact on the Banking Sector
The recent increase in yields has brought both positive and negative implications for banks. On one hand, higher yields contribute to unrealized losses on banks’ loan portfolios. In addition, the growing pressure on deposit costs presents a headwind for net interest income.
However, contrary to concerns, banks have not seen a loss of deposits as rates continue to climb. This is reassuring news for the industry, as stated by Coffey.
Among Coffey’s preferred bank names are Axos Financial, Western Alliance Bancorp, and East West Bancorp. These institutions have managed to navigate the challenges associated with increasing bond yields.
Richard Bove, an analyst at Odeon Capital, emphasizes that the rise in bond yields has intensified the difficulties faced by the banking sector. The devaluation of bank assets consequently reduces the value of their equity, prompting the Treasury to inject more equity into the banks. Additionally, this situation presents obstacles for banks looking to raise rates on deposits.
During the recently concluded third quarter of 2023, bank stocks mostly experienced a decline. However, Citi analyst Keith Horowitz believes that this presents an attractive entry point for investors anticipating further losses in the sector.
Conclusion
The banking sector grapples with the consequences of rising yields. While challenges arise due to unrealized losses and pressure on deposit costs, banks have yet to see a decline in deposits. Analysts emphasize the need for strategic considerations in navigating the impact of increased bond yields on bank assets and equity values. Despite recent declines in stock prices, opportunities for investors may still arise in this sector.