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Where do banks stand now?

Key takeaways

  • The banks that closed in 2023 faced distinct risks that left them each uniquely vulnerable.
  • While a recession could create further headwinds for banks' loan portfolios, the more likely scenario at this point appears to be a soft landing, which could generally support banks.
  • Banking is a diverse sector. Most regional banks have stronger balance sheets than the institutions that have closed or seen extreme volatility.
  • There may be potential opportunities among regional banks with resilient balance sheets and solid growth prospects.

It was a little more than a year ago that banks suddenly rocketed to the top of news headlines, when Silicon Valley Bank quickly collapsed after an old-fashioned bank run. That failure sparked concerns among some investors about the banking sector more generally—and even some unpleasant memories of the 2008 to 2009 period—as the closure of Signature Bank followed just 2 days after SVB and stocks of regional banks experienced volatility.

Although 3 more US banks eventually closed over the remainder of 2023, the worst-case fears of follow-on effects and contagion never materialized. Bank stocks generally returned to greater stability as the year progressed. Financials even ended up finishing the year with a positive return, as measured by the S&P® Financial Select Sector Index.

But the first months of 2024 had some investors again questioning the stability of the sector, as volatility in the share price of New York Community Bancorp, the holding company for Flagstar Bank, N.A., highlighted potential concerns about banks' exposure to underperforming commercial real estate.

Where the banking sector goes from here will undoubtedly depend in part on the broader economy, with a soft landing likely supporting the sector but a recession potentially hurting it. But investors should remember that banking is a diverse industry. While some banks have faced specific headwinds, others may be well positioned with much stronger asset bases and loan books. Read on for a closer look at the recent state of the sector.

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Closed institutions faced distinct risks

Put last year's closures into broader context and it actually wasn't a remarkable year in terms of the number of closures. As the chart below shows, the year's 5 closures shrink in comparison to years like 2009 and 2010, which experienced 140 and 157 closures, respectively. That said, it was the most significant year on record in terms of the total assets of the institutions involved, largely due to the sizes of Silicon Valley Bank, First Republic Bank, and Signature Bank.

Chart shows number of bank failures annually since 2001, versus the total assets of failed institutions over the same time period.
Source: "Bank Failures in Brief – Summary," The Federal Deposit Insurance Corporation (FDIC), accessed on March 19, 2024.

It's important to note that the 5 banks that closed last year each faced specific risks that left them particularly vulnerable. For example, SVB and First Republic focused much of their lending activity on startups, many of which ran into trouble when interest rates began rising rapidly in 2022. These banks also had significant exposure to long-dated securities and loans, which quickly lost value when rates spiked. Signature Bank had an unusually concentrated deposit base, as opposed to the diversified deposit base that is more common among regional banks. The 2 smaller institutions that closed later in the year faced similarly idiosyncratic issues—one due to alleged fraud and the other due to losses on a narrow portfolio of loans.1

Those banks were also disproportionately funded by uninsured deposits—due to a high percentage of customers with deposits of more than $250,000 (the FDIC deposit-insurance account limit). Those uninsured deposits created additional risk when volatility hit the sector, as many of these high-balance customers grew fearful and began withdrawing their money.

Volatility this year in the stock of New York Community Bancorp has generally stemmed from challenges with its commercial real estate portfolio and investor concerns over governance risks. While exposure to commercial real estate impacts many banks, NYCB has particularly significant exposure to these loans compared with competitors. NYCB has also been in a unique position due to the number of acquisitions it has made in recent years—including the purchase of one of the banks that came under pressure last year. A number of actions have been taken to help stabilize the bank since the start of volatility, including an investment of more than $1 billion by a group of private equity investors and the addition of board members and executives with deep backgrounds in banking and government.

Outlook and potential risks

Fortunately, most regional banks have a considerably more diversified deposit base than SVB, First Republic, and Signature Bank did, as well as a lower percentage of uninsured deposits, which should help reduce the risk of bank runs even if volatility returns.

Of course, risks do remain. Some lenders could be vulnerable to headwinds from their commercial real estate exposure. If the US economy were to dip into recession—which is always still possible, even though at this stage a soft landing appears potentially more likely—then banks could see weaker loan demand and an increase in nonperforming loans. If interest rates were to spike higher—which, again, is possible although perhaps not the most likely scenario—then worries about the value of banks' long-dated bonds could resurface.

With that said, if the US can avoid a recession, the outlook for many banks may be bright. In general, banks tend to benefit from higher interest rates, because their net interest margin (the difference between what they pay on deposits and what they earn on loans) can expand. Although dislocations can occur when rates move very quickly—as they did with the rate increases over the past 2 years—over time the asset and liability sides of banks' ledgers can adjust and position them for stronger earnings growth.

Fund top holdings2

Top-10 holdings of the Fidelity® Select Financials Portfolio () as of February 29, 2024:

  • 10.2% – Mastercard Inc. ()
  • 8.0% – Wells Fargo & Co. ()
  • 5.4% – Bank of America Corp. ()
  • 3.9% – Reinsurance Group of America ()
  • 3.3% – Chubb Ltd. ()
  • 3.0% – Citigroup Inc. ()
  • 2.6% – Apollo Global Management Inc. ()
  • 2.4% – Morgan Stanley ()
  • 2.2% – Marsh & McLennan Companies Inc. ()
  • 2.1% – Moody's Corp. ()

(See the most recent fund information.)

Potential opportunities

I believe there have been attractive bargains among regional banks due to most lenders being tarred with the same brush as the few that shuttered. While regulators are watching the group closely, the best defense, in my view, will be a stock-by-stock approach to finding banks with diverse deposit bases, strong balance sheets, and attractive growth prospects.

M&T Bank (),3 based in Buffalo, New York, is one regional bank that has exemplified these features. In April 2022, the company completed its acquisition of People's United Financial. The combined entity created a $200 billion banking franchise serving communities in the Northeast and Mid-Atlantic states, with strong credit quality, a diverse deposit base, and a solid balance sheet.

Another example is Popular (),4 which does business as Banco Popular de Puerto Rico and is the largest bank in Puerto Rico. With a broad deposit base and significant excess capital, this bank has appeared well insulated from the concerns that brought down the banks mentioned earlier.

Looking ahead with cautious optimism

In summary, I believe that carefully chosen regional bank stocks are worthy of inclusion in a diversified equity portfolio. Risks remain, but even in the event of a recession, the best lenders may be expected to participate in the economic recovery that follows.

Headshot of Matt Reed.
Matt Reed, Fidelity Sector Portfolio Manager

Matt Reed is a research analyst and portfolio manager in the Equity division at Fidelity Investments. Fidelity Investments is a leading provider of investment management, retirement planning, portfolio guidance, brokerage, benefits outsourcing, and other financial products and services to institutions, financial intermediaries, and individuals.

In this role, Mr. Reed is responsible for the research and analysis of the financial sector. Additionally, he manages Fidelity Advisor Financial Services Fund, Fidelity Select Banking Portfolio, Fidelity VIP Financial Services Portfolio, and Fidelity Select Financial Services Portfolio.

Prior to assuming his current responsibilities, Mr. Reed covered a variety of sectors, including banks and diversified financials, global financials, financial services and tech, health care, and metals and mining. In this capacity, he was responsible for recommending securities across the capital structure for Fidelity’s High Income division.

Before joining Fidelity as a summer intern in the High Income division in 2008, Mr. Reed was director of Asia Pacific strategy and planning at MetLife, and director of finance at Travelers Group. He has been in the financial industry since 2008.

Mr. Reed earned his bachelor of arts degree in finance from Bentley College and his master of business administration degree from Harvard Business School.

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Before investing, consider the funds' investment objectives, risks, charges, and expenses. Contact Fidelity for a prospectus or, if available, a summary prospectus containing this information. Read it carefully. 1. "Material Loss Review of Heartland Tri-State Bank," Board of Governors of the Federal Reserve System, February 7, 2024, “IDOB Closed Citizens Bank, Sac City,” Iowa Division of Banking, November 3, 2023, 2. Any holdings, asset allocation, diversification breakdowns or other composition data shown are as of the date indicated and are subject to change at any time. They may not be representative of the fund's current or future investments. The Top Ten holdings do not include money market instruments or futures contracts, if any. Depository receipts are normally combined with the underlying security. Some breakdowns may be intentionally limited to a particular asset class or other subset of the fund's entire portfolio, particularly in multi-asset class funds where the attributes of the equity and fixed income portions are different. Under the asset allocation section, international (or foreign) assets may be reported differently depending on how an investment option reports its holdings. Some do not report international (or foreign) holdings here, but instead report them in a "Regional Diversification" section. Some report them in this section in addition to the equity, bond and other allocation shown. Others report international (or foreign) holding as a subset of the equity and bond allocations shown. If the allocation without the foreign component equals (or rounds to) 100%, then international (or foreign) is a subset of the equity and bond percentage shown. 3. Fidelity® Select Financials Portfolio (FIDSX) held a 1.934% position in this stock as of January 31, 2024. 4. Fidelity® Select Financials Portfolio (FIDSX) held a 1.694% position in this stock as of January 31, 2024.

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