As U.S. banks prepare to report their third-quarter earnings, investor attention is focused on the potential for a soft landing in the economy, Federal Reserve rate cuts, and their impact on bank valuations.

Analysts at Bank of America remain cautiously optimistic about the outlook for bank stocks. They predict that a soft-landing scenario could trigger a rebound in customer activity, improve loan growth, and positively drive higher price-to-earnings (P/E) multiples for the sector. However, macro uncertainties, including Fed policy shifts and the upcoming U.S. elections, temper the enthusiasm.

Bank of America equity analyst Ebrahim H. Poonawala highlighted in a note Monday that rate cuts could be “structurally bullish” for bank earnings per share (EPS) outlooks and stock P/E multiples. A softer rate environment is expected to reinvigorate customer activity, particularly in investment banking, mortgage lending, and loan growth.

However, lower interest rates are expected to negatively impact “asset-sensitive banks” as loan yields will drop.

Also Read: Tesla Robotaxi Day Preview: Move Over Autonomous Vehicles, Analyst Says This ‘Positive Catalyst’ Could Be More Important

Political Risks Loom Large Ahead of Elections

The upcoming U.S. election adds an additional layer of uncertainty for banks.

“A Trump win is likely seen as positive for relief on the regulatory/M&A fronts. Democratic sweep likely most negative outcome for the sector given potential for higher taxes, more of the same (or worse) on regulatory changes,” analysts wrote.

While current valuations appear cautiously optimistic about a soft landing, political outcomes could trigger volatile movements in the sector. A Trump win would likely lead to a “knee-jerk” positive reaction in bank stocks, while a Democratic win could weigh on sentiment.

Regional Banks Preferred Over Money Center Banks

For the third quarter of 2024, the investment bank favored regional banks, as tracked by the SPDR S&P Regional Banking ETF KRE, over large money center banks, citing “better defensibility of net interest income (NII).”

Regionals have greater flexibility with deposits, better hedging strategies, and more potential for capital relief as mark-to-market losses on bond books decline.

Key picks include U.S. Bancorp USB, Western Alliance WAL, PNC Financial PNC, Fifth Third FITB, M&T Bank MTB, and Truist Financial TFC.

First Bancorp FBP is seen as the “best positioned to navigate current rate expectations,” while Texas Capital Bancshares Inc. TCBI is the most impacted.

On Monday, Bank of America also downgraded Comerica Inc. CMA from “Neutral” to “Underperform,” reducing the price target from $55 to $52. Analyst Brandon Berman highlighted that the positive rate trade underpinning Comerica “has run its course,” and the stock now trades above the high end of its historical range, not reflecting the risk of downward earnings revisions.

Looking ahead, Friday, Oct. 11, will see key earnings reports from JPMorgan Chase JPM, Wells Fargo Corp. WFC, and Bank of New York Mellon BNY.

Read Next:

Image created using artificial intelligence via Midjourney.