What happened

Shares of several major Wall Street banks moved higher today after the market staged a stunning reversal following a hotter-than-expected inflation report.

The Dow Jones Industrial Average fell more than 500 points this morning, only to erase the deficit and then add more than 800 points, as of this writing.

Shares of Bank of America (BAC -0.53%) traded roughly 5.7% higher as of 2:15 p.m. ET today, while shares of Citigroup (C -1.81%) traded 5.2% higher, and shares of Wells Fargo (WFC -6.02%) were up nearly 5% as well.

Person looking at upward stock chart on computer.

Image source: Getty Images.

So what

I don't think too many investors expected to see this kind of positive momentum after what I would consider bad inflation data this morning.

The Consumer Price Index (CPI), which tracks the prices of a market basket of goods and services, rose 0.4% in September, the highest monthly gain in three months, showing that consumer prices stayed high last month. The CPI was up 8.2% in September on a year-over-year basis. Core inflation, which strips out food and energy, also rose 0.6% over the month.

Prices like food and rent have remained stubbornly high, and the Federal Reserve even wrote in its recent meeting minutes that it has been surprised at just how sticky inflation has been.

So what's fueling the rally today?  Well, for one, market participants still overwhelmingly believe there is a high probability the Fed only raises rates by 0.75 percentage points at its November meeting, which has been expected for quite some time.

According to CME's FedWatch tool, 95% of market participants believe it will be a 0.75-percentage point hike, while 5% of participants think it could be a full percentage point. Furthermore, all the selling in recent weeks might have been overdone, and some early earnings reports for the third quarter have been positive.

"There's been enough pessimism built into the markets and the markets getting stretched to the downside," said Yung-Yu Ma of BMO Wealth Management. "It just allowed for the market to snap back."

Large Wall Street banks will formally kick off the third-quarter earnings season tomorrow, with Citigroup and Wells Fargo on tap and Bank of America set to report Monday.

While banks are set to benefit from the higher-rate environment, which will increase the yield they make on loans and securities, they also face several headwinds in their other businesses such as investment banking and mortgages.

Recessionary fears have also spilled over into bank stocks, with investors worried that loan losses will soon start to rise and that deposits will get more expensive and potentially scarcer as well. Lastly, bank bond portfolios could continue to rack up paper losses due to higher rates, which might decrease book values.

Now what

I'm not really sure what's driving such a rally today other than stocks being oversold. I'm guessing conditions could continue to be volatile.

As for upcoming bank earnings, it could be a bit of a mixed bag, with banks seeing better revenue from loans and securities, but also the issues I mentioned above. I don't expect to see any severe credit issues just yet, although there could be some warning signs of deterioration in Q3.

Wells Fargo may be at an advantage because it doesn't have as big of an investment banking business as some of the other major banks.

Ultimately, I am still quite bullish on all three of these bank stocks now that valuations have pulled back. Yes, there will be continued near-term volatility, which most stocks will face, but long term I think all three of these names can be winners.