Bank stocks could jump 45% on rising bond yields and attractive relative value, Morgan Stanley says

FILE PHOTO: A sign is displayed on the Morgan Stanley building in New York U.S., July 16, 2018. REUTERS/Lucas Jackson/File Photo
FILE PHOTO: A sign is displayed on the Morgan Stanley building in New York

  • Bank stocks could jump as much as 45% on a range of macroeconomic factors, according to Morgan Stanley.
  • “Banks have been a major beneficiary of the value rotation currently underway, with the S&P 500 Banks industry group up 19.9% YTD,” the note said.
  • Historically, bank stocks have benefitted from rising yields and a steepening curve, the note added.
  • Sign up here for our daily newsletter, 10 Things Before the Opening Bell

Bank stocks could jump as much as 45% on various macroeconomic factors, from a steepening yield curve to attractive relative valuation that supports the sector’s outperformance, according to Morgan Stanley.

In a note published on Wednesday, the bank listed five factors that could drive the cohort higher, especially on the expectation of a rotation to value stocks rotation continuing in the near term.

“Banks have been a major beneficiary of the value rotation currently underway, with the S&P 500 Banks industry group up 19.9% [year-to-date], outperforming the broad S&P 500 index by 15.4%,” the note, led by quantitative strategist Boris Lerner, said.

Higher rates, strong economic growth, and fiscal stimulus all contribute to the growth of support value stocks, the note said. The analysts are seeing a a 20%-45% relative upside in the base case scenario.

(1) Rising yields

Banks have historically benefitted from rising yields and a steepening curve, the note said. As yields are expected to continue going up, which will result in a steeper yield curve, bank stocks are expected to keep performing well.

(2) Attractive relative valuation

Banks trade at a significant discount to the market, the note said, and because valuations are near median levels, market valuation at this point looks relatively high. Banks are cheap relative to the market, the note said. The analysts added that the current macroeconomic environment is supportive of value stocks, which have been outperforming growth stocks since the fourth quarter of 2020.

(3) Bank earnings are set to increase

Five key factors are driving EPS growth for banks, Morgan Stanley said. They are: (1) a steepening yield curve due to rising interest rates, (2) high GDP growth, which will boost loan growth, (3) lower credit losses, (4) accelerating job growth, and (5) accelerating buybacks as earnings grow.

(4) Light positioning

Exposure to financials among equity hedge funds is at a 10-year low, Morgan Stanley said, despite the recent rally in financials stocks.

“Active long-only managers are also underweight the sector relative to passive funds,” the note said.

(5) Momentum

The recent rally in financial stocks is expected to increase the net exposure of financials within the S&P 500 from -2% to +15% in the next 3 months, the note said. “Currently, 12-month S&P 500 momentum strategies are net short financials,” the note added. “Shorter-term momentum strategies, based on 9-month or 6-month returns often lead the 12-month momentum, and these portfolios currently have financials at 15% to 23% (highest exposure relative to other sectors).”

Read the original article on Business Insider