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Banks Well-Positioned with U.S. Fed Behind Them

Shares of financial companies and banks outpaced the broader market in the post-FOMC rally on Wall Street on Thursday.

In early afternoon trade, the Financial Select Sector SPDR Fund (XLF) gained 2.9%, compared to 1.6% by the S&P 500. Bank of America Corp. (BAC) gained 2.6%, Citigroup Inc. (C) gained 3%, and JPMorgan Chase & Co. (JPM) gained 1.9%.

I am neutral on all stocks mentioned above.

Banks In a Good Spot

Banks are in an excellent spot these days.

First, they stand to benefit from the Fed’s policy of “tapering but not tightening,” meaning rolling back its bond-buying program, but leaving short-term interest rates unchanged.

That’s music to the ears of bankers, as this policy is expected to push long-term interest rates higher, widening the difference between long-term and short-term interest rates (called the “spread”). That’s something already evident in the U.S. Treasury market today, where the 10-year Treasury bond yields have climbed above 1.4%.

Banks benefit from a widening spread, as they borrow on the short-term of the yield curve from depositors, and lend money on the long end of the yield curve.

Second, banks stand to benefit from a recovering economy and a robust housing market that creates strong demand for loans. However, home sales have tapered off recently due to low inventories, and delayed deliveries by homebuilders.

In addition, economic recovery will help keep loan delinquencies and defaults low, releasing more reserves for additional loans.

Third, banks could benefit from the easing of global financial instability caused by Evergrande’s (EGRNF) woes.

Wall Street’s Take

Banks have a strong analyst following, with Moderate to Strong Buy ratings.

For instance, Citigroup is rated a Strong Buy, while JPM and Bank of America are rated Moderate Buys.

Apparently, there’s some concern in the analyst community about insider selling, decreased hedge fund activity, and the rise of peer-to-peer lending that could undermine conventional financial intermediation. Analysts are also concerned about the “buy now pay later” trend, which could endanger the credit business of big banks.

Bottom Line

Financial stocks and banks are well-positioned for further gains as they have the Fed and the economy on their side.

Disclosure: At the time of publication, Panos Mourdoukoutas had no position in any of the stocks mentioned.

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