Wall Street banks have been treading water — but that may be about to change

Some US banks have fought to tread water, compared to broader indices, but prolonged discounted debt could be a big boost to some firms’ M&A teams. Bruce Bennett / Getty Images

We could be about to see a crucial moment on Wall Street, when banks struggling since the financial crisis will finally find solid footing.

Here’s why: Heading into first quarter earnings season on Tuesday, Wall Street has started extending its expectations for when the Federal Reserve will raise interest rates.

“For the largest [investment] banks… it should help, a low rate environment,” said Erik Oja an equities analyst with S&P Capital IQ.

In the wake of the financial crisis, most banks have underperformed the S&P 500, which is up about 76 per cent over the last 60 months. But, several analysts said, there could be some separation in banks’ performance, especially if interest rates continue to remain unchanged into 2016.

Specifically, they said, the split will make itself apparent in M&A league tables. Low interest rates mean Wall Street can do deals, and the banks that can will start pulling ahead in terms of their performance.

“What you’re going to see is a divergence,” said bank analyst Christopher Whalen.

Bank stock chart
In the years since the financial crisis, big banks’ stocks have lagged the performance of the S&P 500. Google Finance

Now, CEOs are poised for M&A — and that could be a big boost for banks

The expectations of analysts are not based on blind central bank predictions alone: the appetite for deals is at a five-year high, coinciding with the recovery’s momentum, according to an EY (Ernst & Young) report released earlier today. Already, big deals are providing a major jolt to investment banks’ top lines — however, at a growing rate, boutique banks have been stealing away the biggest firms’ market share of multi-billion dollar transactions.

Prolonged cheap monetary policy has juiced up Wall Street’s biggest banks’ top lines (like Goldman Sachs, or Morgan Stanley), with massive M&A deals being executed to kick off 2015. That’s a stark contrast to banks that stick more to consumer lending and home mortgage financing (like US Bancorp or Wells Fargo).

Now, according to one report, Wells Fargo, too, is beefing up its presence in investment banking, after years of outperforming other banks based on its growing mortgage business.

But for all the expectations of a strong deal scene, it still will take months to show up on most banks’ balance sheets. Regulators continue to hold some of 2014’s biggest transaction in limbo as they sort out various approval matters.

Fed expectations based on view of softer US economy

The expectations of a rate hike delayed until later this year (or, beyond) was not a consensus, and, it seems to keep moving back every time the market draws closer to interest rate ‘D-Day. Recently, the combination of sinking oil, a rising dollar and other nations’ central banking decisions has created an environment that is unstable and even the US economy’s recovery appears to have stumbled to begin this year.

“It looks like the economy has really softened in the first quarter,” S&P’s Oja said.

And that, it appears, is altering what banks think about the Federal Reserve’s upcoming rate-hike decision. Wells Fargo, HSBC and Morgan Stanley (just to name a few) have pushed back projections for when they say the Federal Reserve will decide to increase rates, and other analysts agree — some rate doves suggest it could take well into 2016 for the US central bank to make its move.

That means banks with the ability to do deals have more time to crank them out and make serious cash.

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