Lower securities yields could squeeze banks' 3Q profit, report says

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M&T Bank, Zions Bancorp. and some other regional banks may see third-quarter profit margins squeezed by the impact of lower interest rates on their securities portfolios, an analyst said Friday.

Several regional banks said that during the second quarter they had elevated levels of securities that had reached maturity or were paid off early, Mike Mayo, an analyst at Wells Fargo Securities, said in a report published Friday. Since the Federal Reserve cut interest rates by 25 basis points on July 31, any new securities that these banks add will carry lower yields.

“These banks could face greater reinvestment risk in 3Q19 and potentially more pressure on" net interest margins, Mayo wrote in the report.

Mayo identified the $122 billion-asset M&T in Buffalo, N.Y., the $69 billion-asset Zions in Salt Lake City, the $73 billion-asset Comerica in Dallas and the $482 billion-asset U.S. Bancorp in Minneapolis as the companies that could most feel the pinch.

Mayo cautioned that these banks are not guaranteed to add lower-yielding securities during the third quarter to replace the matured investments, but said banks did just that in the second quarter when higher-yielding securities went off their books.

M&T redeemed 41% of its securities book in the second quarter, either through maturity or early payoffs. That was an increase from its redemption of 21% a year earlier. Zions redeemed 23% of its investment securities, up from 20%. U.S. Bancorp’s redemption rate rose to 17% from 16%, while Comerica’s climbed to 17% from 15%.

All four banks matched or had higher redemption levels in the second quarter than the median level of 17% among the 16 banks that Mayo covers. The $42 billion-asset First Horizon National in Memphis, Tenn., posted the lowest redemption level, 6%.

As a result of falling short- and long-term interest rates, Mayo cut his forecast for the entire banking industry’s net interest margin to 3.25% for the third quarter, down from an earlier estimate of 3.45%.

“There is no way to sugar-coat the negative impact of lower interest rates on” net interest margin, net interest income and earnings per share, Mayo wrote in the report.

Yields on the 10-year Treasury note, a long-term benchmark, rose 3 basis points to 1.56% in Friday afternoon trading, but remain well below the 12-month high of 3.24%. Yields on two-year Treasurys also increased 3 basis points to 1.49%, but have declined sharply since hitting a 12-month high of 2.98% in November.

Mayo said that many of the banks he covers use hedging strategies to offset the volatility of interest rates, and numerous banks said that hedging helped defend their profit margins during the second quarter.

However, banks with elevated levels of maturing investment securities may suffer “additional downside” to their net interest margins in the third quarter, regardless of hedging, he said.

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