As the Federal Reserve cut interest rates by 50 basis points as scheduled, bank investors began to expect bank stocks to return to the glory of 1995.

But everything is not as simple as it seems...

Relive the boom of 1995

In 1995, the US banking industry experienced a boom period. The beginning of this boom was mainly due to a series of interest rate cuts adopted by the Federal Reserve and the successful “soft landing” of the US economy by Alan Greenspan, then Chairman of the Federal Reserve.

Back then, the banking industry's index was tracked $KBW Nasdaq Bank Index (.BKX.US)$ By the end of the year, it had risen by more than 40%, outperforming the S&P 500 index (.SPX.US), and this performance that surpassed the market continued for two years.

However, in terms of fundamentals, the state of the banking industry was not optimistic in early 1995, and some major institutions went out of business one after another:

Orange County, California declared bankruptcy in December 1994, and the British Bank of Bahrain went out of business in February 1995; banks with large trading desks are still recovering (with serious losses due to the previous year's bond market crash), and commercial real estate lenders are still experiencing loan losses caused by the crisis that began in the late 80s.

Meanwhile, America's real GDP fell even below 1% in the first half of the year, while its 10-year Treasury yield plummeted 250 basis points. Fortunately, the yield curve was not “inverted,” which enabled banks to profit more from the spread between short-term loans and long-term loans.

A good start to the year

So far this year, the Banking Index (BKX), which soared in 1995, has risen by more than 19%, second only to major stock indexes. Meanwhile, XLF (Financial ETF-SPDR), another index that tracks large banks and other major non-bank financial companies, rose 21%, slightly higher than the main indices.

But Wells Fargo analyst Mike Mayo believes that “history is unlikely to repeat itself, but there may be similarities.” Although he doesn't expect next year to be as good as 1995, he said he “did see some similarities.”

According to the bank's analysis, historically, in three situations where there was no recession after the Fed cut interest rates (i.e. 1995, 1998, and 2019), bank stocks were usually sold off after the first rate cut, then rebounded a few weeks later, and surpassed the S&P 500 index.

From a broader perspective, however, the banking sector's performance over the past six interest-rate cut cycles shows that its exceptional performance usually doesn't last long. 1995 was an exception. Bank stocks rose more than the market in the three months after the first interest rate cut.

Interest rate cuts, supervision... a multi-pronged approach

Analysts believe that at present, the expected impact of interest rate cuts on bank earnings appears to be “mixed”. Lenders that rely on high interest rates may face concerns about falling profits, while Allen Puwalski, chief investment officer and co-portfolio manager of Cybiont Capital, believes:

“There is no doubt that lower interest rates are beneficial to banks. I'm just not sure if this is the same reason as in 1995.”

Some analysts pointed out that in addition to monetary policy, the industry has also benefited from a new era of regulatory easing in 1995, which began when then-President Bill Clinton signed a federal law the year before that lifted “restrictions preventing banks from opening branches across states,” and also $JPMorgan (JPM.US)$ , $Wells Fargo & Co (WFC.US)$ , $Bank of America (BAC.US)$ with $Citigroup (C.US)$ The rise of America's largest banks contributed.

Today, although banking regulations have become more stringent since the Trump administration came to power, earlier this month, regulators relaxed a new plan to raise bank capital, cutting the requirements for large banks in half from the original proposal.

Furthermore, some analysts believe that many things also depend on whether the Federal Reserve can achieve a soft landing and keep the US economy from recession when inflation falls. On Wednesday, Federal Reserve Chairman Powell said:

“Our aim is to maintain the current strong momentum of the US economy.”

And even without a recession in the US, a repeat of 1995 would need to be supported by growth in loans and a continued recovery in investment banking.

At last week's Barclays conference, bank executives such as Bank of America CEO Brian Moynihan and PNC CEO Bill Demchak reiterated their expectations for better earnings in 2025. However, Daniel Pinto, the chief operating officer of J.P. Morgan Chase, expressed concern that “analysts' expectations for the bank's earnings in 2025 are too optimistic.”

edit/emily