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It's a blessing and a curse right now to be a bank investor.
On one hand, you have high volatility sending shares of the nation's largest banks spiraling higher or plummeting lower on any given day. Today is a bit of an exception, as shares of Bank of America (NYSE: BAC ) are up by a modest 0.9% at the time of writing. But on the other, it's arguably one of the most intellectually fascinating moments to be watching how everything plays out.
I'm referring, of course, to the ongoing drama surrounding the Federal Reserve's next moves. At the end of May, Fed chairman Ben Bernanke intimated that the central bank could soon begin to taper its support for the economy via quantitative easing -- that is, its ongoing program of buying $85 billion a month in long-term Treasury bonds and agency mortgage-backed securities.
To say that the market overreacted would probably be an understatement. The best example of this concerns mortgage rates. In just over two months, the interest rate on a 30-year fixed rate mortgage went from 3.42% all the way up to 4.51% -- with some industry observers pegging it even higher.
For the past two months, the market has hung on every perceived hint offered by the central bank. And this is only bound to get more interesting as earnings season kicks off in earnest tomorrow with the results from JPMorgan Chase (NYSE: JPM ) and Wells Fargo (NYSE: WFC ) .
As Dan Fitzpatrick of The Wall Street Journal discussed yesterday, "The most important person during the bank earnings conference calls that kick off this Friday with JPMorgan Chase and Wells Fargo will be a person not even in the rooms: Federal Reserve Chairman Ben Bernanke."
Lest there be any doubt about the magnitude of implications for the banking sector from rising long-term interest rates, Fitzpatrick went on to note a number of startling predictions. First, the full percentage-point jump in rates has already eroded $31 billion in accounting gains from the nation's largest banks. And second, according to estimates from regional bank Zions Bancorp (NASDAQ: ZION ) , if these rates increase by three percentage points, the capital held by the industry would decline by a staggering $200 billion, reducing lending capacity by an estimated $2 trillion.
So, why are many bank stocks rallying today?
While it's always perilous to guess the reason individual stocks move in any particular direction on any particular day, it's hard to dismiss the likelihood that yesterday's comments by Bernanke have something to do with it -- along with worse-than-expected weekly jobless claims. In an apparent retreat from his testimony in May, Bernanke noted that the economy still needs "highly accommodative monetary policy for the foreseeable future."
Industry observers have interpreted this to mean that the Fed isn't as anxious to reduce its support for the economy as many originally believed. If this interpretation does indeed play out, in turn, the pain to bank balance sheets could very well be less than predicted -- at least for now.
Many investors are terrified about investing in big banking stocks after the crash, but the sector has one notable stand-out. In a sea of mismanaged and dangerous peers, it rises above as "The Only Big Bank Built to Last." You can uncover the top pick that Warren Buffett loves in The Motley Fool's new report. It's free, so click here to access it now.