Want a Rally? Put on Your Pompoms and Start Rooting for Banks

Bank stocks and the financial sector have seen their share of ups and downs in the last three years — though decidedly more downs than ups.

On the retail banking side, Bank of America (NYSE:BAC) is off almost 85% since its 2008 peak, and Citigroup (NYSE:C) is down nearly 90% in the same period. On the investment banking side, Morgan Stanley (NYSE:MS) is off more than 60%, and Goldman Sachs (NYSE:GS) is off almost 45%. A host of other financial stocks, large and small, have felt similar pain.

It might seem like a natural reaction to wag your finger at the big banks, since these institutions got exactly what they deserved for their reckless role in the subprime mortgage meltdown. Actually, shaking your fist in anger may be more apt — since one can argue that “too big to fail” institutions got a pretty plush deal with a no-strings-attached bailout and executive compensation that boggles the mind.

But here’s the harsh reality of our current economic quagmire and the fragile rally on Wall Street: We simply can’t have a lasting recovery without the banks.

That’s why each and every investor out there should cheerlead for the financial sector — every day, for as long as it takes.

Otherwise, we are in for a very long and difficult road ahead of us.

Financials Hold Back the Market

We’ll get to some big-picture stuff in a second, but let’s start with the biggest reason investors should root for banks: cold, hard cash.

Simply put, when banks rally, the market rallies. And when banks crash, the markets crash. So unless you are going to go perpetually short, you want to see banks stabilize and start growing — fast.

A look at this chart shows the biggest one-day moves for the market this year on Aug. 8 and 9. The correlation between big moves for the market and big moves for the banks is clear — and bears itself out in less dramatic fashion across other volatile days in the market this year.

Admittedly, the big move on Monday, Aug. 8, had a lot to do with macro issues — the credit downgrade of the U.S. sparked the selloff. But as the headline of my column at the time read, the U.S. credit downgrade changed nothing. In fact, rates briefly dipped as low as 1.9% for the 10-year T-Note. It’s also worth noting these stocks have a lot of pull on the broader indices because BofA and JPMorgan Chase (NYSE:JPM) still are in the Dow, and the market-cap weighting of the S&P 500 Index means megabanks hold a lot of sway.

But all that aside, we should all agree that — generally speaking — sentiment was a bigger factor in August after the downgrade. And sentiment is what’s driving bank stocks, pure and simple, since accounting tricks at financial stocks make numbers difficult to trust.

Thanks to the power of fear or greed on this sector, as investors get bullish, they get into banks big-time. As they get bearish, they run screaming from financials.

In short, a rally in banks means a gush of market optimism — something that all investors should be in favor of.

‘Credit’ Is Not a Dirty Word

The performance of banks, of course, goes beyond the performance of their stock. Investors need bottom lines to shore up and “core” lending to consumers to increase and remain robust. That will help not just stock prices, but the economy.

I know what you’re thinking: Liar loans caused the financial crisis. But the simple fact is the vast majority of responsible Americans could not buy big-ticket items at all without credit.

Yes, Americans probably should save more. Before the recession, in 2005, the per capita savings rate of the U.S. was on par with South Korea at a little over $5 million per every 1,000 residents. That’s a paltry $5,000 per person.

But consider that even in this depressed real estate market, the median home price in the Northeast is more than $240,000 — and exceeding $150,000 in the more affordable South. Even if you double or triple the per capita savings, it’s still going to take a big loan to buy a house.

Don’t believe in the “American dream” of homeownership? Credit isn’t just limited to mortgages. Most start-ups could not get off the ground without a small-business loan. And even credit cards have their utility, with millions of Americans of modest means relying on credit to pay for unexpected car repairs or a replacement refrigerator.

Obviously, irresponsible lending and irresponsible borrowing got us to our current economic quagmire. Greed got us into this mess, and will not get us out. But responsible use of credit is a crucial way to build personal wealth as well as broader economic prosperity.

Banks Must Be Partners in Growth

Of course, responsible credit is easy to explain but obviously more difficult to put into practice. Take MF Global, which pulled an AIG by leveraging up 30-to-1 on risky euro zone debt. Weren’t these turkeys paying attention three years ago?

This is what makes it so hard to root for banks. Everyone hates Bank of America (yes, everyone — and here are five reasons why) and its hubris. Everyone hates the golden parachutes across the industry, like the $30 million farewell Bank of New York Mellon (NYSE:BK) bequeathed on CEO Bob Kelly after “disagreements” with his board earlier this year.

And most of all, everyone hates TARP. Many feel that the Troubled Asset Relief Program didn’t do anything to increase lending (read a great New York Times column on the subject from 2009 here) and only helped the biggest banks get even bigger thanks to government financing for buyouts.

Occupy Wall Street sprung up, in part, out of this anger. It’s a feeling that banks are not partners in our economic prosperity but — to borrow from a famous Matt Taibbi article in Rolling Stone — vampire squids, sucking us dry for the sake of their own profits.

We need banks to be on our side as investors, consumers and workers. Otherwise, we are doomed to suffer the inflation of another bubble at best and a sequel to the Great Depression at worst.

Jeff Reeves is the editor of InvestorPlace.com. Write him at editor@investorplace.com, follow him on Twitter via @JeffReevesIP and become a fan of InvestorPlace on Facebook. As of this writing, he did not own a position in any of the aforementioned stocks.


Article printed from InvestorPlace Media, https://investorplace.com/2011/11/market-rally-bank-stocks-financial-sector/.

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