Four Important Things To Know About Banks In A Rising Rate Environment

With the Fed signaling further rate hikes ahead, bank investors may want to know which investment strategies have worked best in a rising rate environment historically. This paper leverages our empirical work on the SNL bank fundamental data(opens in a new tab) to aid investors in selecting bank stocks as rates rise.

Main findings of this study:

• In a rising rate environment, fundamental-only (income statement/balance sheet) strategies are less effective and investors should focus on valuation.
• This report highlights three key valuation metrics, two of which are not widely used, but highly effective: pre-provision net revenue to price and core EPS to price.
• Investors should also focus on deposit structure as rates rise, specifically a bank’s level of “interest free” deposits relative to total deposits.
• A four-factor model built from these metrics had long-only annualized excess returns of 11.1% during periods of rising short-term rates, with a hit rate of 75%.
• Fifth Third, Regions Financial, JPMorgan Chase, and Citigroup top the list of best ranked Russell 3000 banks (market cap greater than $1 billion) based on the most effective rising rate strategies historically.