Home Finance Fed rate view brightens European bank stock outlook

Fed rate view brightens European bank stock outlook

European bank shares rose further above a three-year high, boosted by the U.S. Federal Reserve’s signal that it could raise rates faster than expected. This lifted some of the December gloom hanging over the sector. European banking stocks benefitted from a sharp rise in borrowing costs after minutes of the Fed meeting release showed officials might be keen to raise interest rates sooner than expected.

The European bank index jumped 1% to touch its highest level. This is by outperforming substantially the pan-European index which fell 1.3%. Profitability for banks typically increases when central banks hike interest rates. But only a move from the European Central Bank (ECB), which is seen as the last major central bank to raise interest rates. Max Anderl, a portfolio manager at UBS Asset Management, said that this would generate significant earnings increase for the banks across the region.

Anderl said that the early 2022 rally could still have legs, with banks likely to profit from the move from growth to value rather than a real improvement of underlying fundamentals. Standard Chartered climbed around 4% to its highest level. Deutsche Bank rose 3%. Spain’s Caixabank gained 2.5%. European bank stocks had lost steam after climbing a 70% in one year. More than twice as much the 30% growth of the STOXX 600 index as banks restored dividends. And also, they got a boost from Europe’s growth rebound. And with a resurgence in COVID cases, the expectation for growth for the European financial sector in the last quarter of 2021 is the weakest of all STOXX 600 sectors.

The financial sector has the lowest year-on-year expected revenue growth rate at 3.5%. This is compared to the 64.2% growth rate for the utilities sector. Which is an overall 17.2% estimated revenue growth rate for the STOXX 600. Bank stocks are generally strongly correlated with bond yields and BofA analysts expect 23 billion euros of revenues for European banks for a 100 basis points upward shift in yield curves. That would represent 4% of the estimated industry revenues for 2022 and 15% on profit before tax.

Another factor supporting European bank stocks are their relatively low valuations. Europe’s bank sector is trading at 8.8 times forward earnings. That compares to 16.8 times for the STOXX 600 benchmark and 12.9 times for the U.S. banking sector. The outlook for banks for 2022 remains overall positive as demand for credit is rising across Europe and stock valuations are still attractive.

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