Higher rates are expected to lead to a jump in losses on banks' bond portfolios and contribute to funding pressures as institutions are forced to pay higher rates for deposits.
KBW analysts Christopher McGratty and David Konrad estimate banks' per-share earnings fell 18% in the third quarter as lending margins compressed and loan demand sank on higher borrowing costs. Rising yields mean the bonds owned by banks fall in value, creating unrealized losses that pressure capital levels. The dynamic caught midsized institutions including Silicon Valley Bank and First Republic off guard earlier this year, which — combined with deposit runs — led to government seizure of those banks.. The bank piled into low-yielding securities during the pandemic and had more than $100 billion in paper losses on bonds at.
"We expect loan loss provisions to increase materially compared to the third quarter of 2022 as we expect banks to build up loan loss reserves," RBC analyst Gerard Cassidy wrote in a Oct. 2 note.Still, bank stocks are primed for a short squeeze during earnings season because hedge funds placed bets on a return of the chaos from March, when regional banks saw an exodus of deposits, UBS analyst Erika Najarian wrote in an Oct. 9 note.
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