Latest thoughts on the banking sector (part 2)

In yesterday's e-mail, I began the process of sharing my expert friend's thoughts and presentation on the banking sector...

As I said, he's the smartest bank analyst I know.

I ended with his slides showing how the government's massive $5 trillion of fiscal stimulus swelled deposits at banks. This was good for their business, but, as I wrote:

This has caused two huge problems...

First, deposits are now shrinking back to more normal levels... which means banks have to come up with a lot of cash to give back to their customers.

Second, banks took the excess cash during the pandemic and did what they always do: made loans and bought fixed-rate securities.

But remember what interest rates did at exactly that time? They had plunged to all-time lows, as the Fed cut rates to zero in response to the pandemic. This meant that banks were making loans and buying securities at ultra-low interest rates.

Then, as inflation took off, the Fed hiked rates faster than any other time in history, crushing the value of those loans and securities – and triggering the banking crisis last spring...

Regarding the former, in this slide, my friend shows how deposits are now in decline:

Worse yet, this is causing banks to compete for high-cost funding such as time and brokered deposits:

As you might expect, this is making banks' cost of deposits skyrocket:

And in turn, this is now causing banks' net interest margin to begin to compress, after a big surge in 2021 and 2022:

But it's not just net interest margin where banks' profits are being squeezed...

It's also another one of their bread-and-butter businesses, as mortgage lending and refinancings have plunged due to the spike in interest rates:

And let's not forget the big difficulties in the commercial mortgage sector as refinancings come due at higher interest rates at the same time many buildings are suffering from high vacancy rates:

In summary, banks face many earnings headwinds.

Put simply, my friend argues that "many banks will earn less in 2023 to 2024 than in 2021 to 2022":

You would think all this would be reflected in banks' stock prices, right?

But it's not – which is what I'll discuss tomorrow with more of my expert friend's presentation details. Stay tuned!

Best regards,

Whitney

P.S. I welcome your feedback – send me an e-mail by clicking here.