Fed's Latest Measures Amid Coronavirus Scare To Aid Banks?

The coronavirus pandemic has been causing market bloodbath in most economies, including the United States. Projections of the outbreak's crippling long-term impact on world economy have spooked investors.

To combat the coronavirus outbreak’s impact, the Federal Reserve has come up with a slew of measures to support households, businesses and the U.S. economy with continuous flow of credit. Moreover, the central body is working toward maximizing employment, keeping prices stable and maintaining the stability of the financial system.

Federal Reserve Measures

Amid various actions, the central bank which announced the resumption of the ‘quantitative easing’ policy of purchasing at least $700 billion worth of Treasury bonds and mortgage-backed securities over the next few months, will now be open for unlimited purchase of the same. Alongside, agency commercial mortgage-backed securities will also be bought.

"While great uncertainty remains, it has become clear that our economy will face severe disruptions," the Fed said on revealing the plans. "Aggressive efforts must be taken across the public and private sectors to limit the losses to jobs and incomes and to promote a swift recovery once the disruptions abate," it noted further.

The Fed is on its toes provide support in all aspects, whereas the Senate is yet to come with an agreement to aid U.S. businesses and taxpayers with the trillion-dollar legislation.

Notably, three emergency lending facilities will be launched by the Fed, including two to purchase corporate debt. The central bank will also create a third facility, the Term Asset-Backed Securities Loan Facility (TALF), for supporting consumers and businesses with credit. Notably, the issuance of asset-backed securities (ABS) backed by student loans, auto loans, credit card loans, loans guaranteed by the Small Business Administration (SBA) and certain other assets will be enabled by the TALF.

In lieu of support to the flow of credit to employers and consumers, the Fed will provide about $300 billion in new financing. Also, the Department of the Treasury, with the use of the Exchange Stabilization Fund (ESF), will aid equity worth $30 billion to these facilities.

The Federal Reserve also added that it "expects to announce soon the establishment of a Main Street Business Lending Program to support lending to eligible small-and-medium sized businesses, complementing efforts by the [Small Business Administration]."

Implications on Banks

Despite these measures, the financial sector was down yesterday with a decent sell-off in the market. Notably, the SPDR Financial Select Sector exchange-traded fund XLF plummeted 5.9%, and all three indices — the S&P 500, Dow Jones and Nasdaq — nosedived, closing in red. The financial institutions rooted as the cause of the 2008 financial crisis, are well-capitalized currently, but still are under stressful conditions.

Curtailment of businesses and consumer activities in an effort to paralyze the spread of COVID-19 has sparked fears of another recession in the United States and worldwide. Therefore, softer demand and credit metrics on loans have triggered a negative view for the financial sector.

Additionally, the latest emergency rate cut might strain banks’ margins, while suspension of buybacks is likely to impact their earnings per share, which has spooked investors. Moreover, the banks might have to face increased possibility of loan losses on plummeting of oil prices which trade in the low 20s. Nevertheless, with the Fed’s new lending facilities for buying corporate bonds along with securities backed by consumer debt, the banks are likely to have a chance to recognize their loan-loss provisions.

Remarkably, shares of JPMorgan (NYSE:JPM) , Wells Fargo (NYSE:C) , Citigroup (NYSE:C) , Goldman Sachs (NYSE:GS) , Morgan Stanley (NYSE:MS) and Bank of America (NYSE:BAC) have tanked.

This apart, the Current Expected Credit Loss standard implementation date might be relaxed by the Office of the Comptroller of the Currency. The CECL accounting standard guides loan-risk measurements and limits risky loans provided by banks. The standard came into effect this year for big banks and has a three-year phase-in period for small banks. Nevertheless, relaxation of rules might delay implementation for small banks and provide one more year to big banks.

Should Investors Stay Away From Banks?

This is not 2008, when the banks had collapsed, resulting in a financial crisis.

Over the past decade, several operating efficiency-strengthening measures have been rolled out, which, along with stringent regulatory capital requirements, have made banks fundamentally stronger. The financial firms have moved away from risky operations and are now focused on strengthening their core businesses.

Also, a conservative lending policy, higher interest rates and improving economy supported banks’ performance. Last year was one of the strongest growth years for banks since the financial crisis, despite the Fed cutting rates thrice to support the economy due the U.S.-China trade tiff.

Global diversification and changing mix to focus more on other revenue sources, along with technological upgrades to ward off competition from FinTechs, are expected to continue supporting banks’ profitability. Also, there has been a rise in consolidation efforts among the industry players, following the easing of some of the stringent rules and lowering of corporate taxes.

The current scenario will, undoubtedly, persist at least for the next couple of months. Yet, one can bet on banking stocks that are fundamentally strong and have long-term prospects. However, at the same time, keep your eyes open to near-term matters.

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