Before 2008, banks showed limited interest in these low-return securities. However, post the crisis, Basel Accords reduced financial risks, giving Treasury and agency securities a 0% risk weighting. This essentially classifyed them as “riskless” and excluded from ratio calculations.
In turn, it led banks to aggressively increase their Treasury positions, nearly quadrupling since then. Governments benefited from this by obtaining substantial debt financing through the banking system. In 2020, Treasury securities and Federal deposits were excluded from leverage ratio calculations. It served to further encourage banks to finance the government deficit.
Rising rates have forced banks to raise the interest rates they pay on deposits to stay competitive with Treasuries. Investors have shifted their deposits from banks to Treasury bills, triggering a run on certain regional banks. Larger banks are also benefiting from this deposit flight. The absence of a clear guarantee for full deposit insurance from the Treasury Department could prolong this situation.
Investors speculating on this sector might face unexpected risks, especially if more banks face the risk of failure. Therefore, it’s a sell recommendation for these three stocks for those concerned about continued stress in the regional banking sector.
S&P Regional Banking (KRE)
A recent “regional bank crisis” rattled global markets, causing sharp declines in regional bank values, notably the S&P Regional Banking ETH (NYSEARCA:KRE). This regional banking ETF provides investors with vast exposure to the regional banking sector in the U.S. While great for many, those who are concerned about potential weakness in this sub sector may want to avoid this exchange traded fund for now.
Recent months have seen a decline in total U.S. bank deposits due to quantitative tightening. Unlike before, deposits are now decreasing, especially for small banks, which have high leverage and increased issues. The total liabilities-to-asset ratio for these banks is higher than pre-2008 levels, adding to the risk profile of this sector, and therefore this ETF.
Investors might see KRE as a value play due to its recent decline, but the U.S. banking system still faces risks, hinting at potential losses ahead.
Truist Financial Corp (TFC)
Truist Financial (NYSE:TFC) reported robust revenue and profit growth, benefiting from First Republic’s troubles. Falling shares offer a discount for investors, while the bank’s revenue surged 15.0% year over year (YOY) to $6.15 billion. The stock’s value with the allowance for loan losses is $4.5 billion. Customers shifted to money market accounts for better returns and wealth clients invested. Business stability indicates customer loyalty despite First Republic’s closure.
TFC stock fell about 40%, now trading at 6-times earnings with a 7.6% forward yield. The bank’s healthy loan-to-deposit ratio sets it apart from many of its peers, but its valuation and forward yield suggest many investors remain cautious.
In general, when banks show yields that are much higher than their peers, the market is losing faith in such firms. Truist is one such bank I think investors need to keep on a leash right now.
Comerica (CMA)
Dallas-based Comerica (NYSE:CMA) stands to profit from booming northern suburban growth in Texas. The company is following in the footsteps of other major U.S. companies that are now calling northern Texas home. So, serving this growing market seems like a great idea to CMA.
Even still, amid the regional banking crisis, CMA stock plummeted over 50% from its highs. Persistent worries about deposit reduction and loan losses counter revenue and earnings success. Moody’s recently downgraded Comerica and similar banks.
At the time of writing, CMA stock has dropped over 40% this year. This happened despite strong earnings in Q1, when Comerica surpassed earnings and revenue predictions with $990 million revenue and $2.39 EPS. I think CMA stock certainly represents one of the more compelling value traps in this space right now, and investors would do best to steer clear of this name, at least for now.
On the date of publication, Chris MacDonald did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
