‘All eyes’ on interest rates as banks prepare to report earnings

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Community banks’ results in the second quarter are expected to show an increase in interest income and profits, as the impact of aggressive Federal Reserve rate hikes becomes obvious. But it’s not all good news — as rates rise, depositors will begin to require higher interest payments thus, possibly driving up bank costs.

This would come on top of operating and personnel costs already on the rise in a context of high inflation this year. Federal data shows inflation hit a 40-year high in May.

Analysts broadly expect higher interest rates to bolster bank results through 2022, but will focus on the expected gap between deposit costs and loan yields when banks report second-quarter results . Banks will also be expected to offer their outlook on the overall economy – whether it can hold its own amid soaring interest rates or tip into recession.

And a recession could easily dampen loan demand and increase loan losses.

“All eyes” are on the impacts of inflation and rising rates, said Piper Sandler analyst Frank Schiraldi.

Piper Sandler expects second-quarter earnings per share across company coverage to rise 1.5% from the prior quarter, Schiraldi said. Still, “we expect this earnings season to be dominated by management commentary on the macro environment,” he said.

Up, up and away

To rein in inflation, Fed policymakers in the spring raised interest rates by 75 basis points — from near zero — in two hikes. They then hiked rates another 75 basis points in June, largest one-time increase since 1994. Policymakers have since signaled that another rate hike is likely when the Fed meets later this month, and more increases could follow.

With already high inflation unexpectedly exacerbated in the spring months by Russia’s war in Ukraine, bankers say the Fed determined it needed to be increasingly assertive. Banks benefit from rising rates as their resettable loans reset higher, fueling higher interest income. But most lenders prefer gradual rate increases because, historically, rapid rate increases have made borrowing too expensive. Business investment and consumer spending fell, by extension, and the economy tipped into recession during past periods of aggressive rate hikes.

“The pace of rate increases now certainly looks faster than anyone anticipated,” said Christopher Maher, CEO and President of OceanFirst Financial.

“The pace of rate increases now certainly looks faster than anyone anticipated” earlier in the year, OceanFirst Financial Chairman and CEO Christopher Maher said in an interview. “I think it’s going to be a sharp cycle.”

He anticipates at least a mild recession over the next few quarters. “You have to be aware of the potential stress,” Maher said.

The $12.2 billion OceanFirst Financial asset in Red Bank, New Jersey benefited from strong loan demand and growth in the first half of the year, and momentum has been building. continued in July, Maher said. But the outlook has darkened a lot in recent weeks, given the rate hikes. If rates continue to rise as markets predict, this would have a dampening effect on demand. It would also force the bank to become increasingly cautious in its underwriting.

“For the future, it’s much harder to assess,” Maher said.

Money in the bank

It is also difficult to predict how quickly filing fees could increase. Depositors are usually slow to demand increases because it may mean changing banks, and making that change is a hassle. But Maher said that as the Fed’s benchmark rate drops from near zero at the start of 2022 to 3% later this year, depositors may begin to act hastily in order to capitalize.

Matt Deines, chairman and CEO of the $1.9 billion First Northwest Bancorp in Port Angeles, Wash., agreed.

“By the end of the third quarter, I think we’re going to see pressure on the price of deposits,” Deines said in an interview.

DA Davidson analysts said in a report that they expect a further 175 basis point rate hike this year.

“Consumers and business customers are likely to demand a ‘share of the wealth’ after years of low interest rates,” they said of the looming pressure on deposit costs.

On the lending side, demand for home loans is already down. Mortgage rates this summer are twice as high as a year earlier. When rates were low, home loans were a key source of income for banks with large mortgage operations. It changes quickly.

Joel Kan, associate vice president of economic and industry forecasts at the Mortgage Bankers Association, said mortgage refinancing activity at the end of June was 80% lower than a year earlier and more than 60% lower than the previous year. historical average.

“Overall buying activity has weakened in recent months due to rapidly rising mortgage rates, high house prices and growing economic uncertainty,” Kan said.

OceanFirst’s Maher said demand for home construction loans has also started to decline. He will watch for a slowdown in consumer and business spending in the fall – after summer holidays and travel – and the impact it could have on economic activity and broader loan demand.

“I think you might see a stronger pullback late in the third quarter and into the fourth,” Maher said.

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