US banks underperformed the market significantly in December 2024, for the first time over the last three months. Moreover, it was the 15th time of underperformance over the last 26 months. Also, the banks were in the red in December, but just for the second time over the last 6 months. So, it was only the 5th time of decline over the last 14 months.
EXECUTIVE SUMMARY
US banks underperformed the market significantly in December 2024, for the first time over the last three months. Moreover, it was the 15th time of underperformance over the last 26 months. Also, the banks were in the red in December, but just for the second time over the last 6 months. So, it was only the 5th time of decline over the last 14 months. Thus, the BKX index tumbled by 6.2% Mtd as of December 26 vs +0.1% Mtd of the SPX index. The absolute December performance (by December 26) was -1.0 std from the mean, and it was in the bottom 14% of absolute monthly performance in the index history. The relative December performance was -6.3% MoM. It is -1.2 std from the mean monthly performance, and it is in the bottom 8% of relative performance vs the SPX index since the inception of the BKX index. Despite the decline in December, the BKX index continues outperforming the broad market ytd, posting +6.6% or +0.6 std. If the BKX index doesn’t skid in the last three trading sessions of 2024, the year will be the first time of outperformance over the last three years. All members of our sample except for STT and C were in the red Mtd as of December 26. Thus, STT and C, the best performers of the month, increased just by 1.1% Mtd and 0.7% Mtd, respectively. In turn, regional banks were among the worst performers again, driven among other things by notable growth of interest rate expectations. The difference of monthly price changes between the best and the worst performers of our sample of banks increased by 10 p.p. Mtd to 25.8% as of December 26. In turn, the correlation between price changes yoy and EPS FY24E changes yoy was roughly flat Mtd, after a small decline in November, still remaining quite high – at 80% as of December 26.
US banks continue trading with a significant discount to the broad market but already with a premium to their own historical averages. The discount to the SPX index was driven by quite weak performance of US banks on absolute and relative bases in two previous years. However, it narrowed considerably in recent months after roughly flat but volatile 1H24. Thus, median P/E 24E of our group of banks decreased from 13.8x (as of November 29, 2024) to 13.2x (as of December 26, 2024). Median P/E 25E went down from 12.6x to 11.4x over the same period of time. Hence, the banks are already trading at +0.3/+0.5 std on P/E CY and at 0/+0.2 std on P/E NY (on the basis of samples from 2000 and 2010 years to the current moment) relative to their historical averages (as of December 26, 2024). As for valuations relative to the S&P 500 index, the banks are currently trading at -1.1 std and -1.14 std from the sample mean (2010-current moment) for P/E CY and P/E NY, respectively. Median P/B of our group of banks was roughly flat in 2Q24, hovering around 1.17x. However, the ratio increased notably since then, rising from 1.17x (as of June 28, 2024) to 1.3x as December 26, 2024 (but -0.15x over the last 4 weeks). However, on P/B, the banks are still trading at +0.4 std from the sample mean (2010-current moment) vs the SPX index at +2.3 std, although expected ROE premiums to historical averages are roughly the same for both the BKX and the SPX indexes. As for individual names, multipliers are still quite different. But the dispersion across the banks decreased slightly during the last year (excl. FLG’s impact). Nonetheless, OZK’s P/E estimates for the nearest years are still around 7-8x while CFR’s ratios are 15-16x at the moment.
The US economy regained momentum, but uncertainty is still relatively high. Indeed, the 3Q24 US GDP growth was revised up to 3.1% from the initial estimate of 2.8%. It was driven by consumer spending, but it wasn’t strong across the board, driven mainly by higher-income households. So, it is expected that the US economy will increase by 2.5% in 2024, providing a quite solid growth rate, especially taking into account the current rate environment. Also, labor market fears faded recently. Thus, payrolls increased by 227K in November vs the consensus of 220K. Unsurprisingly, the Fed revised its unemployment projections slightly down. But it was noted again that a broad set of indicators suggested that conditions in the labor market were less tight at the moment than just before the pandemic in 2019. Nonetheless, given the hawkish rate cut in December as well as the higher dot plot, it seems that the labor market is no more the only focus of the Fed. At least, inflation remains sticky with slight acceleration of core CPI in November and a higher than expected PPI print. Risks are also rather on the upside, given upcoming Trump’s economic policy changes. Hence, the wording of the FOMC statement became more hawkish. And the current dot plot implies that the federal funds rate will be 3.9% at the end of 2025 (vs 3.4% in September projections) and 3.4% at the end of 2026 (3.1% previously). The longer-term neutral rate increased marginally, from 2.9% in September to 3.0%. In other words, uncertainty about Fed’s monetary policy in 1-2 years has certainly increased, and higher for longer interest rates are again on the agenda with all the consequences that follow from this. So far, the economy has managed to cope with high rates, but the margin of safety is gradually decreasing. At least, interest coverage ratios are already near multi-decade lows.
Ongoing uncertainty partially outweighed post-election optimism in December. In turn, the upcoming earnings season should answer the question how justified the recent rally was. Of note, the 4Q24 earnings season will be kicked off by the reports of largest US banks on January 15, 2025. Despite the fact that a part of the November rally was offset by a correction in December, including due to the more hawkish Fed, we expect strong 4Q24 earnings as well as optimistic 2025 forecasts. 2Q24 was an inflection point for US banks, and the majority of fundamentals continue improving since that time, creating all conditions for double-digit EPS growth under the soft-landing scenario in 2025. Indeed, we expect that even NII increase sequentially in 4Q24, despite still sluggish loan growth. Total loans increased just by 2.7% yoy (as of December 11, 2024) vs +11% yoy at the end of 2022. In turn, due to hedging, higher security yields and lower IBD costs, the banks will manage to increase NII even on a yoy basis. As for 2025, we expect mid-single digit NII growth, driven by higher NIM and gradually accelerating loan growth due to still solid economic recovery as well as an impact of pent-up demand. At least, banks have already stopped tightening lending standards. In turn, fee income will remain the key revenue driver in 4Q24 due to strong growth across the board. In particular, IB and trading could increase by 15-20% on a yoy basis in 4Q24. But the recent strength of fee income is more likely due to the effect of a low base. So, we expect only low-single digit growth in 2025. Despite seasonally higher costs in the last quarter of a year, OpEx remain well controlled, and we expect that operating leverage will remain positive in 4Q24. In turn, credit quality remains strong and stable. Despite all fears around CRE as well as low-end consumers, NCO ratios remained notably better than expected and still below historical averages in 2024. We don’t expect significant improvement of credit quality in 2025, but the fact is that banks have almost stopped building reserves. Capital returns remain one of the key sources of uncertainty as it largely depends on how much regulation will be relaxed. But even if you don't rely on the latter, total returns should increase in 2025, given higher internal capital generation.
Fundamentals of US banks continue improving while longer-term prospects have become more brighter in recent months. So, FY EPS of US banks will return to growth in 2025 year after three consecutive years of negative dynamics. Nonetheless, we believe that relatively high volatility both of EPS/revenue estimates and quotes will persist in the near time. On the other hand, the baseline scenario of gradual positive EPS growth of US banks remains intact. In turn, the latter we still can't say so clearly about quotes of US banks after the recent rally. So, we remain neutral on the sector given still rich valuations.
Comentarios