How To Play Bank Stocks Now That Interest Rates Are Rising

Bank stocks have underperformed since Russia launched its invasion of Ukraine in late February. Despite the recent weakness, Bank of America analyst Ebrahim Poonawala said this week the interest rate environment is paying out even better than expected for big banks.

Rates And Earnings: The updated Federal Reserve dot plot projections suggest six more rate hikes in 2022 and a year-end 2023 fed funds rate of 2.75%. Poonawala said this rate hike trajectory implies upside to consensus 2022 and 2023 bank stock earnings estimates. In addition, he said rising 2-year U.S. Treasury yields should help banks as they deploy excess cash flows from bond books into higher yielding investments.

Related Link: Why Bank Stocks Are Getting Crushed Since Ukraine Conflict Began

Poonawala said JPMorgan Chase & Co (NYSE: JPM), M&T Bank Corporation (NYSE: MTB) and Signature Bank (NASDAQ: SBNY) have particularly large amounts of excess cash to deploy.

Unfortunately, the yield curve between 2-year and 10-year Treasuries is still extremely flat, which Poonawala said could weigh on investor sentiment for bank stocks.

The war in Ukraine is also a near-term threat to bank earnings, especially if inflationary pressures and supply chain disruptions linger. These factors could drag down loan growth and credit quality, which would be bad news for banks.

How To Play It: Poonawala said inflation rates of between 2% and 4% and real U.S. GDP growth of between 2% and 3% would be an ideal scenario for banks to maximize earnings.

"Rate sensitive, domestically focused banks are likely best positioned to outperform given investor caution on globally interconnected institutions," Poonawala said.

Bank of America's top bank stock picks include Signature Bank, M&T Bank, Wells Fargo & Co (NYSE: WFC), Citizens Financial Group Inc (NYSE: CFG), East West Bancorp, Inc. (NASDAQ: EWBC), Synovus Financial Corp. (NYSE: SNV) and SVB Financial Group (NASDAQ: SIVB).

Benzinga's Take: Inflation data over the next few months will give bank investors much-needed clarity on just how much of an impact the Russian invasion will have on the U.S. economy and just how effective the Federal Reserve rate hikes will be in getting prices under control. Rising interest rates are good for bank margins, but not if out-of-control inflation drives the U.S. economy into a recession.