Dow Morning Report: Why Is the Whole Banking Sector Soaring?

Although we don't believe in timing the market or panicking over daily movements, we do like to keep an eye on market changes -- just in case they're material to our investing thesis.

A strong report on employment pushed the Dow Jones Industrials (DJINDICES: ^DJI  ) up 74 points just before 11 a.m. EST, as investors were apparently pleased to see that the government shutdown didn't completely crush the labor market in October. But with economists now expecting the Federal Reserve to clamp down on its quantitative easing program, it's surprising to see big banks JPMorgan Chase (NYSE: JPM  ) , Bank of America (NYSE: BAC  ) , and Wells Fargo (NYSE: WFC  ) all rising between 2.5% and 4% and leading the broader stock market higher. Why are bank stocks doing so well in the face of rising interest rates?

In assessing how bank stocks are moving, you have to look at several different angles. On one hand, past signs that the Fed would ease off bond-buying sent dangerous ripples throughout the sector. Beginning early this year, JPMorgan and Wells Fargo both emphasized the drops that they had seen in refinancing activity, hurting the income from mortgage originations on which the banks had relied for a substantial part of their rebounds from the financial-crisis years. In addition, JPMorgan CFO Marianne Lake told investors in September that a further rise of 2 percentage points could prompt a $15 billion loss in the bank's bond portfolio. Bank of America had reported a more than $4 billion drop in its accumulated other comprehensive income figures in its second quarter, reflecting the big run-up in interest rates that occurred when the Fed first suggested that it might start cutting the extent of its bond-buying activity.

On the other hand, the impact of a positive economy generally filters down to higher bank profits. As long as the Fed keeps short-term interest rates low, then any increase in long-term rates could actually widen interest spreads and boost net interest income. That could offset weakness in mortgage-origination fees and other noninterest income.

What's clear is that banks have been preparing for a stronger economy. Bank of America, Wells Fargo, and JPMorgan have all implemented massive cost-cutting measures to try to make the most of their profit opportunities, and this morning, the chief of JPMorgan's consumer banking unit said that it's ahead of schedule in implementing its expense-cutting plan.

In the long run, banks will have to demonstrate their ability to compete without the support they got during the financial crisis. Over the years, they've made great progress, and a stronger economy could finally help them grow more on their own.

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