Market pundits seem consistently to recommend the stocks of "too big to fail" banks, and certainly this was a great call in 2009, immediately after the historic bailout. These banks enjoy the support of the federal safety net, but contrarians question the viability of their business model, given that their customers often have better credit than they do.
Now that the consensus view is that a rate hike is due this year courtesy of the Federal Reserve, and even those who doubt the Fed will act expect higher rates, Gerard Cassidy
, MD and Banking Analyst at RBC, looked at the group and found that Bank of America (BAC) will benefit the most from a steepening of the yield curve, as would regional banks, such as PNC (PNC) and Keycorp (KEY). Asked about the state of bank bond portfolios, Cassidy responded that they would only be a problem "down the road" if rates rise "too much."
This writer would add that banks benefit from a friendly accounting and regulatory regime that leads analysts to put aside valuation issues, because after all, these banks enjoy government support. Cassidy was then asked about "post-crisis" regulatory actions that block "profitable avenues" for the banks and whether the banks would continue to be "whacked." Cassidy agreed that regulatory costs due to Dodd-Frank will "impact the profitability" of the group. This writer has questioned from the outset whether Dodd-Frank will be implemented, and the banking lobby has demonstrated in the last five years that it has the upper hand regarding regulatory policy.
Asked about the 60 percent premium to book value shown in the KBW index and whether this premium can grow, Cassidy referred again to the prospect of profits from higher rates. He added that profits will not reach the levels they did prior to 2008, because bank capital is at "record highs," which depresses the return. This writer would note that commentators differ on their assessment of bank capital and a minority of senators is calling for much higher capital and more effective restrictions on risky activities of banks. Asked whether banks could get caught up in the FIFA money laundering scandal, Cassidy said it will take time and probably not be material.
Next, John Wraith
, fixed income strategist at UBS, hailed recent strength in the euro as evidence that European Central Bank (ECB) Chief Mario Draghi's policies have Europe "headed in the right direction," with signs that inflation is picking up. However, with quantitative easing (QE) just beginning a course that is supposed to last 18 months, Wraith warns that if the ECB eases up, this could be risky for bonds. He called on the ECB to "stick to its guns" and convince the market that it will. One wonders what the U.S. authorities are doing behind the scenes to support the ECB's QE, even as the U.S. talks about raising rates.
In the next clip, Will Oswald
, head of fixed income at Standard Chartered, added his voice to the call for "front-loaded" QE by the ECB in order to fend off deflation. Oswald agreed with the interviewer that it is "far too early" to talk about an exit strategy. He noted that new Solvency II regulations will lead insurance companies to buy more bonds next year.
Finally, Bill Smith
, CEO of SAM Advisors, said Greece should be kicked out of the eurozone, but he doesn't think the Europeans have the "appetite" for this and will "kick the can down the road," because "in the global economy, Greece means nothing."
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