A sustained rally in U.S. bank stocks requires expanding loan volumes on the back of a vigorous economy.
The outlook for credit growth is weak. For instance, the BIS global credit impulse indicator, which has been a leading indicator of relative bank profitability, is painting a bearish picture.
Moreover, U.S. banks have increased their exposure to the corporate sector at the expense of consumers, who have been deleveraging. With U.S. corporate health deteriorating, the downside for banks is twofold. First, credit quality is already weakening prior to any meaningful domestic economic downturn. Second, deteriorating credit quality is a deterrent to credit availability. Lending standards are tightening on most credit products outside of traditional mortgages. Rising interest rates will not solve these problems. If anything, they will exacerbate the downturn in credit quality via more onerous debt servicing requirements.
Bottom Line: Every bank rally since 2014 has proved self-limiting because there is no economic impetus for rate expectations to move substantially higher. The current message on credit is bearish, and therefore we remain underweight U.S. banks relative to the broad index.
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