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Fed Trends Could Bring Down Bank Stocks for 2013

NEW YORK (TheStreet) -- Investors will see saturation coverage of the Federal Reserve this week, and a lack of clear direction from the Fed could make this a great time to take profits on interest-sensitive bank stocks, according to KBW analyst Frederick Cannon.

"Interest rate-sensitive financials have fared well since the Fed began its discussions of tapering bond purchases earlier this year and bond yields began to increase," Cannon wrote in a note to clients Sunday. "The yield curve is now approaching record levels of steepness and unless the Fed signals a definitive approach to tapering and timing for an increase in short-term rates, bond yields are likely to be volatile during the fall."

So what does that mean to bank stock investors? It "suggests that interest rate-sensitive stocks are unlikely to be outperforming during the remainder of the year."

The Federal Open Market Committee meets on Tuesday and Wednesday, and the committee on Wednesday afternoon will issue its statement, which will include the long-awaited plan to lower the central bank's monthly bond purchases. Unless the committee decides to wait again because of mixed signals from recent economic reports.

All eyes will be on Federal Reserve Chairman Ben Bernanke, who will hold a press conference Wednesday afternoon.

The Fed has been making monthly purchases of $40 billion long-term mortgage-backed securities and $45 billion in long-term U.S. Treasury bonds since last September, in an effort to hold-down long-term interest rates. This "QE3" policy hasn't worked over the past several months, sine the market has pushed up long-term rates in anticipation of a tapering of the Fed's balance sheet expansion. The market rate on 10-year Treasury bonds has risen to 2.79% Monday morning from 1.70% at the end of April.

Interestingly, the withdrawal by Lawrence Summers from consideration to be President Obama's nominee to succeed Bernanke in January, had a very positive early effect on the bond market, sending the yield on the 10-year down 10 basis points in early trading.

Hand-in-hand with the increase in long-term interest rates is a massive decline in mortgage refinance applications, feeding an overall decline in mortgage loan applications and feeding concern that the U.S. housing recovery could stall. Then again, there are plenty of homes selling for cash. We won't know of any overall drop in home sales until the end of this month.

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