US Bank Stress Tests This Week, Analyst Expects Improvement: 8 Stocks, 3 ETFs To Watch
The U.S. banking sector is on the edge of its seat as the 2024 stress test results are expected to be announced this Wednesday after the market closes. A sense of optimism is pervading among investors as improvements in banks’ capital buffers are anticipated compared to last year’s evaluations.
Improvements in Capital Buffers Anticipated
According to insights from a Bank of America analyst, Ebrahim H. Poonawala, the banking institutions are stepping into the 2024 stress tests on stronger footing, with around 300 basis points (bp) of excess Common Equity Tier 1 (CET1) capital above the regulatory requirements. This figure significantly upstages the 185 bp surplus from the previous year.
Poonawala believes that while unexpected results can never be entirely ruled out, any surprises from the stress test would likely be within manageable bounds. The analyst further stresses that the improved capital positioning is a key factor that could help banks better withstand increases in stress capital buffer requirements amid the evolving economic and regulatory landscapes.
The Severely Adverse Scenario
This year’s stress test scenarios, concocted by the Federal Reserve, are meticulously designed to challenge the resilience of the U.S. banking system. Among these scenarios, the most notably severe one anticipates a 55% plummet in the Dow Jones Index, a 6.3 percentage point hike in unemployment rates to 10%, a surge in the VIX (fear index) to 75, and significant downturns in both residential and commercial real estate markets by 36% and 40%, respectively.
With a particular eye on commercial real estate (CRE), these scenarios suggest a consistent level of stringency in the stress tests over the years. Analysts had speculated whether CRE declines would be projected even more steeply due to increased scrutiny on the sector. However, the Fed’s forecasts remain aligned with previous years’ projections.
Focal Banks and ETFs
Attention gravitates towards both the perennial participants of these tests and the five banks making their debut in this year’s examinations. Banks such as Ally Financial Inc., Fifth Third Bancorp, Huntington Bancshares Inc., KeyCorp, and Regions Financial Corp are under particular scrutiny as first-time entrants.
Apart from the newcomers, seasoned players like Goldman Sachs Group Inc., Citigroup Inc., and M&T Bank Corporation also hold the spotlight. Goldman Sachs might find some relief and potential for capital optimization with happening reductions in private investment exposures. Citigroup could leverage a decrease in CET1 requirements to possibly ramp up its share buyback activities, while M&T Bank, with its significant CRE loan exposure and robust capital buffer, looks towards maintaining a CET1 target of 11%.
Last year, the banking indices responded positively to the stress test results, and banks with declining stress capital buffers notably outperformed their peers. This trend has set the stage for this year’s outcomes, with investors keenly awaiting the ripple effects of the 2024 stress tests’ results on the stock performances of these institutions.
ETFs to Watch
Alongside individual banking stocks, three banking-related Exchange-Traded Funds (ETFs) are also in focus this week, reflecting the broader market anticipation around the stress test outcomes. The performance of these ETFs could serve as a barometer for the banking sector’s health and investor sentiment post-announcement.
As the banking sector awaits with bated breath for the stress test results, the improved capital buffers suggest a sector that’s not just surviving but potentially thriving amidst the challenges. By Wednesday, this anticipation will transform into insights that could set the tone for banking stocks and ETFs in the days to follow.
