By Tomi Kilgore, MarketWatch
Bank stocks traded broadly, and in many cases sharply lower, as the spread between yields on 2-year and 10-year Treasurys briefly turned negative for the first time since the financial crisis, fueling fears that a credit crunch and recession were looming.
The SPDR Financial Select Sector exchange-traded fund /zigman2/quotes/209660484/composite XLF +0.78% sank 3.1%, with all 68 equity components losing ground. Within subsectors, the SPDR S&P Bank /zigman2/quotes/201006419/composite KBE +0.98% slumped 2.9% with all 90 components falling and the SPDR Regional Bank ETF /zigman2/quotes/200108291/composite KRE +1.09% shed 2.8% will all 122 components declining.
The selloff comes as the S&P 500 index /zigman2/quotes/210599714/realtime SPX -0.07% dropped 2.4% and the Dow Jones Industrial Average /zigman2/quotes/210598065/realtime DJIA +0.14% tumbled 652 points, or 2.5%. Financials were the third-highest weighted sector in both indexes, with a 13.2% weighting in the S&P 500 and a 15.3% weighting in the Dow.
An inverted yield curve refers to when yields on shorter-term Treasury notes cross below longer-term Treasury yields. One of the most closely watched yield curve measures is the 2s-10s spread, as inversions have very often preceded recessions, as it indicates that monetary policy and financial conditions are too tight to support economic growth.
For banks, an inverted curve can hurt earnings and act as a drag on lending, as the usual practice of taking on shorter-term liabilities to fund longer-term assets, like loans, can start costing banks money.
John Lynch, chief investment strategist for LPL Financial, said the yield curve inversion “sends an important signal” to the Federal Reserve. “U.S. monetary policy is clearly still too tight, even after last month’s 25 basis point (0.25%) rate cut, given trade uncertainty and signs of slowing global growth,” Lynch wrote in a note to clients.
While Lynch said that he’s not convinced a recession is imminent, given that recent data has showed that the U.S. economy is on “solid” footing, he acknowledged that “recessions can be self-fulfilling prophecies of market sentiment,” and investors should take that risk seriously.
Among individual bank stocks, Citigroup Inc. /zigman2/quotes/207741460/composite C +1.57% dropped 5.0% toward a 4 1/2-month low, and was the biggest decliner in bank ETF. Among other more-active stocks, Bank of America Corp. /zigman2/quotes/200894270/composite BAC +1.69% fell 4.6%, JPMorgan Chase & Co. /zigman2/quotes/205971034/composite JPM +1.97% gave up 3.8%, Wells Fargo & Co. /zigman2/quotes/203790192/composite WFC +0.55% shed 3.5% and KeyCorp /zigman2/quotes/202852742/composite KEY +1.33% slid 2.0%.
Elsewhere, shares of Regions Financial Corp. /zigman2/quotes/202396577/composite RF +0.62% lost 3.8%, Goldman Sachs Group Inc. /zigman2/quotes/209237603/composite GS +0.53% fell 3.7%, Morgan Stanley /zigman2/quotes/209104354/composite MS +1.90% declined 3.2% and Charles Schwab Corp. /zigman2/quotes/201281754/composite SCHW +1.28% was down 2.2%.
If there is a bright side, the weakness in the financial sector could result in more merger activity for banks, according analyst Jennifer Demba at SunTrust Robinson Humphrey.
The three banks Demba highlighted as having “significant franchise value” are Regions Financial, Synovus Financial Corp. /zigman2/quotes/209053698/composite SNV +1.38% and Ameris Bancorp. /zigman2/quotes/208317759/composite ABCB +1.94%