What happened

The stock market was having a strong day on Wednesday, with all major averages higher on optimism surrounding the Georgia Senate run-off election results. While one of the two races hadn't yet been called as of this writing, all signs are pointing to the Democratic candidates winning both seats, effectively flipping the Senate. Now, it appears that the White House, Senate, and House of Representatives will all be controlled by the same party.

While most sectors of the stock market are moving higher, banks are some of the biggest winners on Wednesday. As of 1:30 p.m. EST, JPMorgan Chase (NYSE:JPM) had risen by nearly 6%, Citigroup (NYSE:C) was up by nearly 8%, and investment banking giant Goldman Sachs (NYSE:GS) gained more than 6% on the day. Most other bank stocks posted similar gains as well.

Man looking at laptop and cheering.

Image source: Getty Images.

So what

There are two big reasons bank stocks are having such a positive reaction to today's news.

First, while Democratic control of the government does bring the possibility of corporate tax hikes, it also makes further economic stimulus measures far more likely to pass. President-elect Joe Biden specifically mentioned $2,000 stimulus checks as something that could happen if the Senate were to flip, and other COVID-19 relief measures like enhanced unemployment benefits, postponed student loan payments, and forgivable small business loans have suddenly become far more achievable.

The reason this is such a big deal is that banks have been setting aside billions to cover loan defaults. And the more financial help that reaches those who need it, the fewer actual defaults the banks are likely to see. In a worst-case environment, banks could lose billions due to consumers running out of money. And with Democrats in control, it's likely such a scenario can be avoided.

Second, bond yields spiked in response to the election results. If more stimulus is passed, it could lead to higher inflation, and that's why we're seeing yields move higher. The 10-year Treasury yield (a common benchmark for the interest rate environment) reached 1% for the first time since March 2020 and sits at 1.046% as of this writing -- more than nine basis points higher than yesterday. Since banks primarily make their money by collecting interest on loans, higher rates mean higher profits.

Now what

We're still a long way from the finish line when it comes to the COVID-19 pandemic. And there's no way to accurately predict what kind of stimulus will actually pass, or whether we'll actually see much inflation in a post-pandemic world. However, it's fair to say that a Democratically controlled Senate is a positive catalyst for the banking industry, and that's why we're seeing such a big move in bank stocks on Wednesday.

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.