Bank stocks may enjoy a holiday-season rally this year in contrast to the gloomy autumn they are now enduring, according to an equity fund manager who focuses on the industry.
"I think we are going to see a fourth quarter much like the one in 1993," said Robert A. Bonelli, portfolio manager of the $7 million Ernst Bank Equity Fund for Ernst & Co., New York.
Last year, he noted, "there was a huge selloff at the beginning of the quarter with bank stocks revisiting their lows, followed by a strong close in the last five weeks of the year."
The Standard & Poor's bank index improved by 9% during that quarter.
And that nearly matched the 11% gain the index posted during the fourth quarter of 1992, which ranks among the best years ever for banks.
"The cyclical pattern we are seeing this .year for these stocks is similar to 1993, with runups, selloff, and lots of volatility," he said. "In some places, you can almost overlay the charts."
Banks this year have swung between extremes of outperforming and underperforming other stocks. After a major selloff in September and October, they have recently shown signs of stabilizing.
Mr. Bonelli, who was an officer at UJB Financial Corp., Princeton, N.J., before moving to Wall Street, thinks stabilization may be a prelude to better times. "The only strategy right now is to stay invested," he said.
A better bond market after-the policymaking Open Market Committee of the Federal Reserve System meets next week in Washington could be the trigger.
The committee, which effectively sets the nation's monetary policy, is widely expected on Wall Street to raise short-term interest rates by at least 50 basis points.
"I think the Fed is going to raise rates again and that we are going to end up with a flat yield curve," sparked by a price rally in longer maturity bonds, Mr. Bonelli 'said. "The [30-year Treasury] long bond has no business being at 8%."
That would be a tonic for banking stocks. Along with other financial companies, they are generally viewed as the primary beneficiaries of stable to declining rates, reflected by rising bond prices.
Mr. Bonelli's fund has positions in about 20 bank stocks. Its largest holdings are in Chemical, PNC, and Shawmut National Corp. The fund's best performer this year has been Baltimore's Provident Bankshares Corp., up 24%.
The fund itself is currently up about 8% for the year, which Mr. Bonelli considers good, in view of the difficulties the markets have endured. Earlier this year, the fund was up as much as 16%.
"It hasn't been that easy being right when the market is wrong," the fund numager acknowledged.
Mr. Bonelli thinks the financial markets have discounted too much future inflation. "The markets have been very selective in reading the data and indicators about inflation," he said.
Recently, the markets read the latest housing data as showing that, even with rates going up, houses are still selling, but it chose to ignore the fact that home prices have declined, for the first time in a long while.
Devaluation of most Americans' largest equity holding "is a sign of deflation," he noted.
The Standard & Poor's 500 stock index "sells as if the inflation rate were significantly higher than 5%," he said.
"But no one is talking about inflation above 5%. Everyone seems to be between 2.7% and 3.1%" in projecting the 1995 increase in the government's Consumer Price Index.
"At some point, the S&P is going to adjust to inflation in the 3% to 5% range, which means price-to-earnings ratios will move from 14 to 18, if you believe 30 years of history." Mr. Bonelli said.
The money-center banks, he noted, have traditionally sold at 55% of the S&P 500.
Regionals have sold at 70% to 75% of the S&P on a price-toearnings basis.
At a 55% discount to an S&P market multiple of 14, moneycenters should be selling at about eight times earnings of the previous 12 months. But Chemical Banking Corp. is selling at less than seven times earnings, and Chase Manhattan Corp. at less than six.
Regional banks should be selling at a nine or 10 multiple. But PNC Bank Corp., he noted, is selling at a 7.4 multiple on a trailing basis and carries a 6% dividend yield.
Thus, if the S&P corrects upward and banks return to their historic relationship to it, "money-centers should be selling at nine times earnings and regionals at 12 times earnings," the fund manager said.
That would imply a 20% to 40% upward move of bank stock prices over the next nine to 12 months, he said. He hopes for a less dramatic upward movement as the year closes.
"If the stocks move up too fast, the traders move in and sell," he said, "but moving up gradually allows for the investment base of a stock to be increased at a steady and healthy pace."
