Download the Schwab app from iTunes®Get the AppClose

Financials Sector Rating: Outperform

It includes banks, savings-and-loan companies, insurance companies, investment funds, brokerages, mortgage finance companies and mortgage real estate investment trusts (REITs).

We currently have an outperform rating on the Financials sector, but there have been some developments recently that we’re watching.

One of the pillars for our current outperform rating on the sector is that banks' balance sheets came into the crisis relatively strong, thanks in part to stringent regulations put in place since 2008. The recent stress test conducted by the Federal Reserve confirmed this. Under the most rigorous scenarioa W-shaped double-dip recessionbanks' aggregate capital reduction would leave them with still-adequate capital ratios. Importantly, this scenario does not include the potential positive impact from government stimulus, and the Fed has trillions of dollars at its disposal as part of its Main Street New Loan Facilitieswhich should mitigate bankruptcies and defaults.

Nevertheless, a provision of the stress test does raise some uncertainty. Future dividend payouts will be based on a formula dependent on banks’ trailing quarterly net incomewhich could force reductions going forward. Additionally, banks will need to re-run their stress tests later this year.  

Loan defaults are expected to rise significantly in coming months, to be sure, but sharp downward earnings expectations have likely reflected much of this—and those revisions have stabilized. Despite low expected earnings, however, valuations are relatively attractive, in part due to sharp underperformance of the sector year-to-date.  

Even though rising longer-term interest rates are not a primary consideration in our outperform rating, as we expect rates to remain relatively low, the gradual rise amid growing economic optimism had helped Financial outperform in late spring. However, there was extensive discussion at the June Federal Open Market Committee meeting regarding yield curve targeting—controlling longer-term rates as well as short-term rates. While there is not a current plan to implement such a policy, the fact that they discussed it in such detail and continue to research it has gotten investors’ attention.

That, combined with rising COVID-19 cases and a step back in economic optimism, has pushed yields lower again, which has weighed on the Financials sector’s performance recently. While we’re watching the latest developments, we still think that the generally improving trend in the macroeconomic environment, combined with attractive valuations and solid fundamentals, support an outperform rating.

Sector Overview: Financials

Financials

Note: Each of the sector lenses shown above—Macroeconomic, Value, Fundamental and Relative Strength—is both intuitive and evidenced-based in nature. Within each, there are a varying number of factors. The Macroeconomic lens includes sector sensitivities to interest rates, stocks and the value of the U.S. dollar; the outlook for each of these is determined by the Schwab Center for Financial Research (SCFR)’s Asset Allocation Working Group, which uses a mosaic approach of quantitative and qualitative considerations. Value includes six different valuation metrics that provide a holistic perspective on current valuations relative to each of the sectors’ own historical valuations, as well as relative to the other sectors. Fundamental provides insight as to how efficiently the companies within each sector use invested capital to produce earnings; this historically has been informative as to future relative performance of the sectors. Finally, Relative Strength measures momentum of the individual sectors against all of the other sectors. We also consider the data in the context of factors outside the scope of these indicators—for example, geopolitical risk or central bank policy changes.  

Source: Charles Schwab, as of 07/16/2020

What do the ratings mean?

The sectors we analyze are from the widely recognized Global Industry Classification Standard (GICS®) groupings. After a review of risks and opportunities, we give each stock sector one of the following ratings:

  • Outperform: likely to perform better than the broader stock market*
  • Underperform: likely to perform worse than the broader stock market
  • Marketperform: likely to track the broader stock market

 

Want to learn more about a specific sector?  Click on a link below for more information or visit Schwab Sector Views to see how they compare. Clients can log in to see our top-rated stocks in the Financials sector.

 

* As represented by the S&P 500 index

Communication Services Industrials
Consumer Discretionary Information Technology
Consumer Staples Materials
Energy Real Estate
Health Care Utilities

 

What You Can Do Next

Materials Sector Rating: Marketperform
Consumer Discretionary Sector Rating: Marketperform

Important Disclosures

Schwab Sector Views do not represent a personalized recommendation of a particular investment strategy to you. You should not buy or sell an investment without first considering whether it is appropriate for you and your portfolio. Additionally, you should review and consider any recent market news. Supporting documentation for any claims or statistical information is available upon request.

All expressions of opinion are subject to change without notice in reaction to shifting market or other conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Indexes are unmanaged, do not incur management fees, costs and expenses and cannot be invested in directly. For more information on indexes please see www.schwab.com/indexdefinitions.

Past performance is no guarantee of future results and the opinions presented cannot be viewed as an indicator of future performance.

Investing involves risk including loss of principal.

The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc.

(0720-03S7)

Thumbs up / down votes are submitted voluntarily by readers and are not meant to suggest the future performance or suitability of any account type, product or service for any particular reader and may not be representative of the experience of other readers. When displayed, thumbs up / down vote counts represent whether people found the content helpful or not helpful and are not intended as a testimonial. Any written feedback or comments collected on this page will not be published. Charles Schwab & Co., Inc. may in its sole discretion re-set the vote count to zero, remove votes appearing to be generated by robots or scripts, or remove the modules used to collect feedback and votes.