What happened?

Shares of Bank of America are down more than 6% today, following first-quarter earnings that fell 42% after the bank took much larger-than-expected credit provisions to prepare for the economic fallout of the COVID-19 pandemic. As a result of Bank of America's big moves -- as well as those of other megabanks like JPMorgan Chasewhich also reported earnings -- to get ahead of the economic cycle that's expected to cause millions of people to fall behind on their debts, investors are selling hard and fast out of other bank stocks today.

Bank Price change on 4/15/20
Bank of America (NYSE:BAC) (6.5%)
Toronto-Dominion Bank (NYSE:TD) (4.5%)
U.S. Bancorp (NYSE:USB) (6.7%)
Axos Financial (NYSE:AX) (6.5%)
Bank of N.T. Butterfield & Son (NYSE:NTB) (6.7%)
SVB Financial (NASDAQ:SIVB) (5.6%)
People's Utah Bancorp (NASDAQ:ALTA) (10.9%)
OFG Bancorp (NYSE:OFG) (7.3%)

As of 11:45 p.m. EDT. Data Source: YCharts.

So what

Investor sentiment for the banking industry is largely set by big-bank earnings. And with Bank of America, JPMorgan, and others reporting in the past two days and all taking bigger-than-expected credit provisions, the sentiment for the industry has turned decidedly negative. 

As my colleague Matt Frankel pointed out, the earnings results we've seen from the big banks weren't horrible. Bank of America's $22.8 billion in revenue was essentially flat year over year, but it was the $4.8 billion in provisions for future loan losses that seems to have caught investors off guard. Combined, the four largest U.S. banks took $22 billion in additional loss provisions in the first quarter, a massive increase from last year's levels in a healthy lending environment. 

Broken piggy bank

Image source: Getty Images.

Now what

Investors clearly expect to see more bank capital hit lows in the weeks ahead when smaller banks start reporting earnings. 

Even with unprecedented action by the federal government, with $2 trillion in direct stimulus and trillions more in lending by the Fed and backed by the Small Business Administration, banks are preparing for a wave of defaults as tens of millions of Americans lose their jobs, millions more see their income decline, and tens of thousands of businesses face massive financial pressure under forced closures. 

Now for the good news. While we are heading for a recession that could be deeper than any in American history and banks are taking massive provisions to prepare for what could be millions of consumers unable to meet their financial obligations, the banking sector entered this downturn in much better shape than it did the last recession. Banks are better capitalized and seem to be acting quickly to prepare for the worst. 

Moreover, the nature of this downturn is different: A forced shutdown of the economy to save lives and reduce the spread of the coronavirus should mean a quicker recovery, and the Federal Reserve has acted aggressively to keep the financial system healthy. I'm not saying investors should rush out and buy bank stocks today, but I do think it's a good sector to watch and consider investing in as we see signs that the economy is getting ready to open up again. 

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.