Inflation fears continued to dog bank stocks Monday with the release of the latest in a string of strong economic reports.
The Conference Board's index of leading economic indicators, which predicts economic activity for the next six months, rose 0.3% in May, more than economists had projected. It was the third straight monthly increase, helping knock the Standard & Poor's bank index down 0.21%.
"The predictions of higher growth in the second quarter does suggest higher rates, which the market persists in taking as a negative for banks," said Ben Crabtree, a bank analyst with Dain Bosworth in Minneapolis.
"Also, if the economy is indeed strong, earnings at industrial companies will be stronger, and bank earnings will pale by comparison."
Monday's decline followed two weeks in which the sector's stocks fell 2.3% after a bullish report on existing home sales and other stronger-than- expected economic data fanned inflation worries.
The price of the 30-year Treasury bond - which often moves in tandem with interest-sensitive bank stocks - fell three basis points by midafternoon, and its yield, which moves in the opposite direction, had risen above 7%.
Among the hardest hit bank issues was First Bank System Inc., which closed down 62.5 cents, to $59.75.
Mr. Crabtree said there may be a repeat of bank stocks' performance in 1994 when inflation jitters finally overtook the stocks in late summer, starting a dive that lasted through early winter.
Today, whenever inflation fears depress bank stocks, the sector rebounds nicely, he said. But as evidence accumulates that the economy is improving - and predictions are now surfacing that the economy will grow at a healthy 3.5% clip in the second quarter - investors may begin to drop bank stocks, Mr. Crabtree said.
Traditionally, bank stocks are viewed as interest rate sensitive because of banks' large bond holdings and the need to pay out high deposit rates if yields rise.
But many analysts argue that banks are no longer interest rate sensitive.
"The best evidence that the long bond won't be the death knell of bank stocks is if second quarter earnings come in strong," said Michael Mayo, an analyst with Lehman Brothers and one of the strongest bank bulls on Wall Street.
Earnings could be from 10% to 15% higher than last year's levels, Mr. Mayo predicted.
Still, some investors appear to be antsy. Bank stocks in the S&P have now fallen nearly 2.5% in less than two weeks. And a number of larger banks have seen even heftier declines, including First Union Corp., Norwest Corp., and First Chicago NBD Corp.
On Monday, decliners included Boatmen's Bancshares, which fell 18.7 cents, to $40.25; and Bank of new York Co., which fell 37.5 cents to $58.50.
The First Bank System drop came despite comments from the company's vice chairman, Richard Zona, at an investors conference in Minneapolis, that the bank's five core businesses would continue to provide "good results" and that the company would not make an undisciplined acquisition.
Rumors have swirled around the bank in past weeks that the bank will soon announce a major acquisition, and the company stock has dropped 5.2% in the last eight trading days. Rumored target banks include Firstar Corp. and KeyCorp.