Banking sector bitten by virus

What a difference two months make. Coming out of fourth-quarter earnings in January, US banks were largely optimistic about the outlook for 2020.

For all the worries about regulations and low interest rates, the sector was one of the market’s top performers in 2019. Morgan Stanley, Goldman Sachs and JPMorgan Chase are among those that rolled out ambitious new financial targets. Expectations were for interest rates to stay put in 2020.

Fast forward seven weeks and the KBW Nasdaq Bank index is fast approaching bear market territory after slumping earlier last week. The Federal Reserve’s emergency 50 basis points rate cut sent investors fleeing.

Over the past two weeks the country’s nine largest banks by assets have collectively seen $287bn wiped off their market value. Lower interest rates squeeze net interest margin — the money that banks make from loans after taking out what they pay customers in interest. Steady US economic and loan growth helped paper over the cracks from the Fed’s three rate cuts in 2019.

But with the coronavirus outbreak disrupting everything from factory output to retail sales and tourism, few are betting that the economy will come to the rescue this time around. Wells Fargo bank analyst Mike Mayo has slashed his earnings forecast for the sector by 10% and warned of a potential 25% decline if things get worse.

While no banks are immune from the falling rate environment, there are some offsets. Expect low rates to drive a mortgage and commercial debt refinancing boom. Market volatility could boost equity and fixed income trading.

Big diversified Wall Street banks will be best placed to reap these benefits. The same cannot be said for their smaller, regional peers. These are almost entirely dependent on net interest income. /London, March 6

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