JPMorgan Chase recently reported first quarter earnings, kicking off a highly anticipated quarter for U.S. banks. This study leverages S&P Global Market Intelligence’s SNL banking data to answer three questions of importance to bank investors:
- Which widely-used investment strategies have been profitable historically?
- Which lesser-known strategies deserve wider attention?
- How do these strategies perform across varying macro environments: rising vs. falling interest rates and above- vs. below-average financial stress?
Main findings of this research:
- Empirically, valuation is the strongest category of bank strategies in the U.S., followed by asset quality and profitability. The three most effective factors in these categories are core EPS to price, the one-year change in the Texas ratio, and the three-year change in operating profit to Tier 1 capital. Investment strategies based on these ratios produced long-only excess annual returns of 7.4%, 5.7%, and 4.0%, all significant at the 1% level.
- Banks that depend on wholesale markets for funding underperform, while banks with significant core deposits outperform. Strategy results for savings & money market deposit accounts to total deposits had a 4.1% annual long-only excess return.
- When short-term interest rates rise, valuation and asset quality-based investment strategies tend to perform best. During periods of above-average financial stress, capital adequacy and asset quality strategies are most important.
- Results of strategy backtests in Europe reflect an extended crisis in both credit quality and profitability as the study commences in 2007. The three strongest strategies in Europe are the risk-based capital ratio (11.7% annual long-only excess return), total pretax expense to assets (10.8%), and problem loans to equity plus reserves (10.1%). Note: Problem loans, a data item unique to the SNL bank fundamental dataset, is a standardized measure of asset quality in Europe.
SNL bank fundamental data provides a comprehensive range of data items that form the foundation for this research.