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Are Conditions Right for U.S. Banks To Break-Out?

All banks are not equal. At current valuations, cognizant of embedded expectations and rate-driven volatility, we favor those banks best positioned to thrive in and beyond a tightening cycle. We see advantages for scaled, complete, tech-embracing marketers able to garner profitable market share to sustain above-average growth and returns.

We're monitoring Five Key Themes. (1) Macro support and monetary policy, i.e., prospects for higher interest rates comes first; (2) With the regulatory agenda a close second amidst changing Fed leadership and a broadening agenda; (3) Recovery – Part 2--should benefit all banks, but what comes after that? Expect an increasing bifurcation in growth prospects; (4) Competition is the dynamic constant with exponentially increased speed and intensity in the digital world; scale, scope, and strategic vision are the starting point to maintaining relevance amidst disruption and further disintermediation in financial services; and (5) The battle for relevance will accelerate the Great Divide.

We review the prospects for higher interest rates. The next leg of the recovery relies on sufficient macro momentum to support higher interest rates and healthy loan demand. Are we there yet? Banking industry fundamentals remain tightly correlated to GDP growth, monetary policy, and confidence. Risk ties to COVID variants, inflation, supply chain disruption, and the Fed's balance sheet management.

2020's challenges underscored the efficacy of the regulatory framework. Even so, we're mindful of the risk related to changing leadership at the Fed and, with it, the assessment of capital adequacy in the banking system. We ask how extensive regulation may become. What support will exist among regulators for consolidation? And what of the proliferation of risk not just within -but adjacent to the banking industry (climate risk, credit proliferation outside the banking industry, crypto/digital currencies, and the FinTech evolution).

Banking is mature and remains a significant and massively fragmented industry. There's limited market growth in aggregate. Low barriers to entry render the sector ripe for disruption amid ongoing, if not accelerating, disintermediation. Thus, competition is the dynamic constant with exponentially increased speed and intensity in the digital world. Scale, scope, and strategic vision are the starting point to maintaining relevance amidst disruption and disintermediation. Expect meaningful market share shift and consolidation. Focus on the profitable market share takers – the scaled, tech-embracing marketers able to compete with low and declining unit operating costs and outsized investment spending – as those best positioned to benefit.

@Susan Roth Katzke