What happened
Shares of Wells Fargo (WFC 1.23%) had risen more than 4% as of 2:15 p.m. ET today for no obvious reason, although I am guessing the move has something to do with the fact that the bank is a big beneficiary of rising interest rates.
So what
At its meeting earlier this month, the Federal Reserve raised its benchmark overnight lending rate, the federal funds rate, for the first time since 2008. As expected, the Fed increased the benchmark rate to a range of 0.25% and 0.5%.
The surprise in the meeting, however, came from the Fed's more hawkish stance, in which it said it expects to raise rates at each of its next six meetings this year and then potentially another four times in 2023. That's 11 rate hikes in two years. Fed Chairman Jerome Powell has also recently said he is open to doing a half-point move all at once if needed, which is double the Fed's standard 25-basis-point moves.
Image source: Getty Images.
Banks tend to benefit in a rising rate environment because the yields on more of their interest-earning assets such as loans reprice higher with the federal funds rate than the yields they pay out on interest-bearing liabilities like deposits. That widens their margins, resulting in higher profits.
Wells Fargo is one of the more asset-sensitive banks in the industry. According to its annual filing, a 1% parallel move in shorter- and long-term rates would result in an additional $7.1 billion of net interest income for Wells Fargo over the next year. That forecast is from the end of 2021 and it's unlikely rates would ever move by a whole percentage point all at once, but it does provide an idea of how much rising rates help Wells Fargo.
Now what
Not only will Wells Fargo benefit from rate hikes, but the bank is also conducting a multi-year efficiency initiative that will help cut annual expenses and make the bank leaner.
Investors are also hopeful that the bank will eventually remove the asset cap that is currently in place and essentially prevents Wells Fargo from growing its balance sheet. The cap has been in place since 2018 as punishment for the bank's phony-accounts scandal and is seen as one of the main inhibitors to a stronger stock price and valuation.
While the status of the asset cap is harder to predict, I still like how Wells Fargo is positioned, given its exposure to rising rates and the current efficiency initiatives.
