Speaker: Mislav Matejka, CFA, Head of Global Equity Strategy

One of the sector calls where we face the most pushback from investors is our UW on Banks, entered in Q4. Until Q4, Banks had outperformed for three years in a row, driven by better EPS momentum and ultimately by rising bond yields. We have downgraded the sector as we think this phase is over. US 10-year moved from 0.5% in 2020 to 5% last October, the point at which we argued that bond yields have likely peaked. This is even as we tactically think that short-term bond yields are likely to consolidate, and be somewhat higher. Central banks will be cutting rates this year, which will directly reduce the earnings power of the sector. Second, the pressure could arise from the peaking out in relative EPS growth of the sector. The stalling in Banks’ relative EPS momentum could be enough for the sector to stop working. We note that the EPS revisions of European Banks have just recently entered negative territory. In addition, the net interest income for Banks could weaken, from elevated levels, and deposit betas could increase. Banks meaningfully increased capital return to shareholders, but this could be as good as it gets. Finally, Banks are still a high-beta play on economic momentum and on credit spreads, where the current, rather optimistic, outlook that is priced in the markets might not last. Notably, the commercial real estate remains an overhang for the sector. Regionally, our top pick is Japan, and we still like Japanese Banks vs US and European ones, a call started last April. The Japanese rates cycle remains disconnected from the US and Europe, and it could be moving in the opposite direction this year. Big picture, we keep our view of OW Growth vs Value and preference for US vs International, in effect fading the Nov-Dec market broadening rally. So far ytd, US, Growth and large caps are strongly outperforming International, Value and small caps, in all regions, and our UW on Banks fits this dynamic.

This podcast was recorded on 18 February 2024.

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