Declines of more than 20% in regional bank stocks may be a major sign that the rally in the Standard & Poor's 500 index is about to fizzle.
Smaller lenders have lost 24% of their market value since climbing to a four-month peak on May 8. Concern that mortgage rates, credit losses and foreclosures are rising spurred retreats in those companies expected to benefit most from $12.8 trillion of government stimulus spending.
Slumps in bank stocks have foreshadowed previous declines in the S&P 500 as investors focused on real estate losses that curbed lending. Regional banks' 51% plunge over 28 days starting on Dec. 8 came a month before the S&P 500 began a 28% slump to a 12-year low of 676.53. These lenders' all-time high in February 2007 occurred seven months before the S&P 500's record.
"If housing and credit led us into all this, they will have to stabilize," said Mark Demos, a money manager in Minneapolis for Fifth Third Bancorp's asset management unit, which oversees $18.7 billion. "There's a growing concern that they're not out of the woods. 'Less bad' does not equal good."
Speculation that government spending would end the first global recession since World War II had helped push up the S&P 500 by 15% since March 31, the biggest quarterly increase since 1998. Financial shares gained the most among the index's 10 industry groups, rising 35%.
Stocks began to decline three weeks ago as economic reports spurred speculation the U.S. economy was not recovering fast enough to justify the S&P 500's 36% advance since March 9. The Federal Reserve said in its June 10 Beige Book business survey that "stringent" loan conditions persist despite signs the recession is moderating.
"This has been a government-induced rally," said Jordan Irving, who helps manage more than $110 billion at Delaware Investments in Philadelphia. "We need to see some real positives coming from internal demand, as opposed to government-related demand, and it's just not there."
Borrowing costs climbed in the past month, with the average rate on a 30-year, fixed mortgage reaching a six-month high of 5.59% on June 11, according to Freddie Mac. The rate was 5.42% when last reported, on June 25. This increase prompted the Mortgage Bankers Association to cut its forecast for U.S. mortgage originations by 27% on June 22 as fewer people refinanced their homes.
Marshall & Ilsley Corp., Wisconsin's largest banking company, has fallen 53% since May 11, wiping out three-fourths of its rally since March 5. Citigroup Inc. analysts predicted on June 11 that loan losses would stay high even after the Milwaukee lender raised capital by selling shares.
"The average regional bank out there is going to see increasing net chargeoffs and loan-loss provisions, and people may say, 'Gee, do I really want to be in banks?' " said Barry Knapp, the head of U.S. equity strategy at Barclays PLC in New York. "That could definitely be a catalyst for a sell-off."
Banks are not the only problematic S&P components.
Home builders have fallen 26% since May 4, when they reached the highest level since October.
Since early May D.R. Horton Inc. in Fort Worth has had one of the steepest declines — about one-third of its market value — among builders in the S&P 500. The largest U.S. home builder posted a worse-than-estimated quarterly loss on May 4.
Lagging transportation stocks are another bad omen for the overall rally, according to strategists at Bank of America Corp. and Raymond James Financial Inc., who said that gains in airlines, trucking and railroads usually precede economic rebounds.
The Dow Jones Transportation Average has fallen 7.3% this year, led by a 61% drop in AMR Corp., the Fort Worth parent of American Airlines.
