Rally in U.S. banks seems unsustainable

The near-term outlook for bank fundamentals is positive, but we see most of the firms we cover as fairly or overvalued.

Eric Compton 23 February, 2018 | 6:00PM
Facebook Twitter LinkedIn



Eric Compton: U.S. banks have been on a tear over the last couple of years. Many of the names we cover have had total returns for shareholders of 20% all the way up to 70% over the last two years. For an industry which has traditionally grown tangible book value in the mid- to upper-single-digit-range, with range-bound margins and returns on equity, this does not seem sustainable to us.

With tax cuts being written into law, good reasons to expect more economic growth, regulatory relief already playing out, and a normalizing interest-rate environment, the near-term outlook for regional bank performance is certainly positive. Incorporating these factors has caused our fair value estimates to increase across the board this year. The largest factors contributing to this change were the corporate tax rate dropping to 21%, this was from our previous assumption of a drop to 25%, as well as updated leverage assumptions, as we believe banks will now begin to shed the excess capital that they have built up in response to the post-crisis regulatory environment. 

Despite all of these positive assumptions, we still believe many of the banks we cover are either fairly valued or even overvalued, and we don't expect outsize returns from the sector over the next several years. We believe that banking is in many ways a commoditized industry and that over time, increasing wage pressure, increasing competition for credit and deposits, and an eventual turning in the credit cycle will all keep returns on equity from expanding indefinitely. This will limit returns over the medium term in our view.

Facebook Twitter LinkedIn

About Author

Eric Compton

Eric Compton  Eric Compton, CFA, is an equities strategist for Morningstar Research Services LLC, covering the U.S. and Canadian banking sectors, including the U.S. money center banks, U.S. regional banks, and the Big Six Canadian banks.

© Copyright 2024 Morningstar, Inc. All rights reserved.

Terms of Use        Privacy Policy       Disclosures        Accessibility