Why Are US Bank Stocks Continuing to Fall? KBW Bank Index Drops for Sixth Straight Week as Credit Risk Becomes Market Focus

TradingKey - Despite overall solid third-quarter performance from major U.S. banks, bank stocks have suffered persistent sell-offs. The KBW Nasdaq Bank Index had previously fallen for six consecutive weeks, setting its longest weekly losing streak since the 2008 financial crisis. Although the index rebounded somewhat this week, it remains down approximately 11% from its record high in August.

This trend stands in sharp contrast to the banking sector's current operating data. Financial reports from JPMorgan Chase (JPM), Bank of America (BAC), Citigroup (C), and Wells Fargo (WFC) show that the financial condition of U.S. consumers and corporate clients remains relatively stable, and loan demand has not seen a significant contraction. However, the market is trading not on already published results, but on the potential impact high interest rates could have on the future economy, credit quality, and loan growth.

Bank Earnings Solid, Credit Risks Yet to Deteriorate Significantly

In the third quarter, four major U.S. banks set aside a combined total of approximately $7.6 billion in provisions for credit losses, down about 3% year-over-year; actual loan losses fell by about 5%, while loan balances grew by nearly 10%. These figures indicate that continuously rising borrowing costs have not yet caused a widespread impact on consumer and corporate balance sheets.

Major banks' earnings also continued to be supported by consumer spending, equity trading, and financing demand for artificial intelligence infrastructure. JPMorgan Chase, Citigroup, Wells Fargo, and Goldman Sachs all reported year-over-year growth in both revenue and profit in the third quarter, with the four banks generating a combined net profit of approximately $32 billion, up 14% year-over-year.

However, performance diverged across business lines, with equity trading revenue relatively strong, while fixed-income trading and certain investment banking businesses fell short of expectations. Meanwhile, specific fines, legal fees, and rising operating expenses also weighed on the profit performance of some banks, preventing solid overall results from lifting market sentiment.

Bloomberg Intelligence analyst Herman Chan noted that major banks are simultaneously facing pressures from slowing economic growth, rising loan loss risks, and divergent trading performance. Although banks' operating leverage remained generally stable overall, equity trading was relatively strong while fixed-income trading failed to meet market expectations, and third-quarter earnings reports failed to significantly boost sector sentiment.

High Interest Rates and Default Concerns Weigh on Bank Stocks

The primary reason for the continued decline in bank stocks is that investors worry the positive impact of high interest rates is approaching its limit. Rising interest rates typically boost loan yields and net interest income, but if borrowing costs remain elevated for a prolonged period, they will also suppress demand for housing, auto, and corporate loans, while increasing the likelihood of borrower defaults.

The latest survey by the International Association of Credit Portfolio Managers further reinforced these concerns. The survey showed that credit managers generally expect global corporate default rates to rise over the next 12 months, and credit spreads in major markets may also widen over the next three months. The composite index reflecting default expectations fell from -37.1 in the second quarter to -62.5, while the credit spread outlook index dropped from -42.3 to -65.2, indicating that surveyed institutions' assessment of the credit environment has weakened significantly.

The survey also showed that credit pressures facing the retail, automotive, and real estate sectors are particularly prominent, while data centers and other AI infrastructure projects have also begun to draw attention. Some companies previously managed to barely maintain operations by relying on loose financing; once refinancing costs continue to rise, their debt pressures may be exposed more quickly.

This is precisely the reason for the divergence between bank stocks and their earnings performance: while loan losses currently remain manageable, the market is concerned that asset quality could deteriorate over the coming quarters. Citigroup, State Street, Bank of America, and Morgan Stanley emerged as some of the weaker major constituents in this round of pullback.

Interest Rate Trends Become Key to Bank Stock Rebound

Market concerns over high interest rates also mean that the trajectory of interest rates could become a key variable for a rebound in bank stocks. Bank of America analyst Ebrahim Poonawala pointed out that falling interest rates could provide support for bank stocks. If lower borrowing costs can ease debt-servicing pressure on businesses and consumers without significantly eroding banks' interest income, market concerns over credit risk may moderate.

However, the impact of lower interest rates on the banking sector is not purely beneficial. If rate cuts stem from a marked economic weakening, sluggish loan demand and rising corporate defaults could still offset the benefits of lower funding costs. A more favorable scenario would be falling energy prices or easing inflationary pressures creating room for lower rates while avoiding a sharp economic recession.

Citizens Financial Group CEO Bruce Van Saun believes that market concerns regarding the pressure current borrowing costs may exert on bank clients are somewhat overblown. He stated that rates at this stage are not yet enough to broadly impact borrowers or significantly disrupt dealmaking, though significant uncertainty remains over how rates will move in the future.

Overall, the continued decline in US bank stocks does not imply that banks' current credit quality has deteriorated significantly; rather, the market is pricing in advance the potential impact of a prolonged high-rate environment, slowing economic growth, and rising corporate defaults. Whether bank stocks can stabilize going forward will depend on whether credit quality remains resilient, whether interest rate trends take a favorable turn, and whether dealmaking and loan demand can support earnings.