DPST - Financials Bounce Back
2023-07-13 02:35:00 ET
Summary
- Despite a meaningful rally in the second quarter, bank spreads are still wide relative to the broader investment-grade corporate market.
- In March, the spread differential between the Bloomberg U.S. Investment Grade Banking Index and the Bloomberg U.S. Investment Grade Corporate Index reached 28.75 basis points.
- Through the end of June, we’ve seen a significant rally in bank equities and credit spreads with the SPDR S&P Regional Banking ETF 14% off its lows and the Bloomberg Investment Grade Banking Index 58 bps off its wides.
By Melanie Hilbush, CFA
Despite a meaningful rally in the second quarter, bank spreads are still wide relative to the broader investment-grade corporate market.
In March, the spread differential between the Bloomberg U.S. Investment Grade Banking Index and the Bloomberg U.S. Investment Grade Corporate Index reached 28.75 basis points.
This was not only the widest level in the last five years, but also a three-standard-deviation move from the five-year mean of -12.5bps. Through the end of June, we’ve seen a significant rally in bank equities and credit spreads with the SPDR S&P Regional Banking ETF 14% off its lows and the Bloomberg Investment Grade Banking Index 58 bps off its wides.
Banks that had been most under pressure during earlier volatility led the move tighter over the past two months, with Comerica ( CMA ) 474bps tighter, Zions ( ZION ) 338bps tighter and Synovus ( SNV ) 231bps tighter, according to the Bloomberg U.S. Investment Grade Corporate Index. As a result, spread dispersion within the sector has decreased.
As spreads have tightened, U.S. banks have issued roughly $50 billion in the primary market since the end of March. From a demand perspective, the deals were generally well received by investors, with new issuance greatly oversubscribed.
One of the most telling was from Schwab ( SCHW ), which priced a deal on May 17. Schwab received a lot of attention and was initially under pressure during recent volatility, so the bank’s ability to price the deal and its strong performance increased investor confidence in both the name and the sector overall. The company priced $2.5 billion across two tranches and the bonds are now 35 to 65bps tighter than at issuance, depending on the tranche.
Despite the rally, bank spreads are still wide relative to the broader investment-grade corporate market. As of June 30, the spread differential between the Bloomberg U.S. Investment Grade Banking Index and the Bloomberg U.S. Investment Grade Corporate Index is 10bps, which is still roughly two standard deviations away from the five-year mean and near levels experienced at the height of pandemic volatility in March 2020.
Banks begin reporting second quarter earnings this week, and while stress tests indicate that the largest U.S. institutions remain strong fundamentally, given the significant move in front-end rates, banks’ securities portfolios could be back in focus.
The Bloomberg Investment Grade Banking Index is dominated by the money center and regional banks with assets over $100 billion, which we believe are best positioned within the sector. To the extent we see elevated volatility around earnings, subsequent new-issue supply could create opportunities in the space.
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Financials Bounce Back