Another increase in interest rates by the Federal Reserve System's monetary policy managers, expected today, could focus attention on bank stocks and their extraordinary dividend yields.
Banks currently offer an inexpensive shelter against the chill from higher rates that may settle over the stock market, says Michael L. Mayo of Lehman Brothers.
Their high yields signal that banks are oversold, while stocks of other industries do not yet reflect the slower earnings growth that will eventually result from Fed credit tightening, he believes.
In fact, bank yields recently translated to 147% of the dividend yield of the Standard & Poor's 500 stock index, a much-watched yardstick of the overall market.
That is the highest relative level they have reached over the past 25 years, except for periods around 1974 and 1990 when banks endured severe problems and were shunned by investors.
Dividend yields, moving inversely to stock prices, strongly reflect risks to investors. But with no banking crisis imminent, Mr. Mayo thinks the stocks are attractive.
"Based on these yields, we ought to be seeing the examiners moving into banks to shut them down and hearing the Federal Deposit Insurance Corp. explain the need for recapitalization," Mr. Mayo said.
"Instead, we've got a probable decrease in deposit insurance coming by early 1996," he said, "and we have examiners criticizing banks for having excess reserves."
Bank stocks typically yield more than other stocks but not so much as right now. For the past quarter century, banks tracked by Lehman Brothers have typically yielded 123% of the market in general.
Recently, however, some of the nation's best-known banking companies have sported uncommonly lofty yields.
Shares of New York's J.P. Morgan & Co. recently featured a yield of 4.5%, equal to 158% of the 2.85% yield of the S&P 500. On average, Morgan's shares have yielded 109% of the S&P index during the past 25 years.
Among the superregional companies, shares of the respected Wachovia Corp., WinstonSalem, N.C., recently yielded 4.03%, or 142% of the S&P 500. And Detroit's conservative NBD Bancorp. yielded the same.
"These yields matter in a bear market, when preservation of capital becomes more important," said Mr. Mayo.
The analyst said he expects higher rates from this point forward to cause earnings expectations for other industry groups to fall and hurt stocks.
"The banks already reflect decelerating earnings, while other stocks do not," he said. "They've already gone through their bear market. That creates an opportunity for them to outperform."
In fact, bank stocks since 1970 have outperformed other stocks 75% of the time for the year following one in which their relative yield was 130% or higher, he said.
The outstanding performance this time could be based on bank stocks' holding their own while the overall market slips by 10%, he said.
A possible period for comparison is the fourth quarter of 1980. That, too, was a time of rising rates after an election.
During that quarter, bank yields were 141% of the S&P 500, or about what they are now. For the next year, bank stock prices improved by a meager 1.5%, but the value of other stocks declined by 9.7%, meaning banks enjoyed a relative gain of 11.2%.
Banks should also benefit from the fact that their dividends are growing three times as fast as those in the overall market. Mr. Mayo forecast 15% dividend growth for banks versus 5% for the market in general. Based on that, bank dividend yields should gain even further on other stocks, to 161% of the S&P 500 by a year from now.
That relative dividend level would rank only behind the crisisrelated yields of late 1990, he said, "just prior to when bank stocks bottomed out and appreciated 50% over the next year."
