Citizens Financial CEO: 2 Things Banks Can Do to Combat Compressed Yield Curve

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Bank stocks have recently had a huge run-up on a burst of new loans and economic bullishness that has steepened the yield curve. But if the post-covid world will look anything like the pre-covid world, the yield curve may be challenged. 

Citizens Financial CEO Bruce Van Saun told TheStreet how banks intend to mitigate the headwind and keep the business growing. 

While the S&P 500 has risen about 40% from its March 23 bear market low, the Invesco KBW Bank ETF  (KBWB) - Get Invesco KBW Bank ETF Report, which is roughly 70% weighted towards regional banks, has risen 50%. $1 trillion of new corporate debt was issued in May as the Fed stimulus flowed through the system, compared to $975 billion in all of 2019. 

And the yield curve between the 2-year and 10-year treasuries has expanded to above 60 basis points from below 45 in April, as investors price in a fast economic recovery. Citizens Financial is up 75% since March 23. 

But the yield curve is currently far flatter than it usually is in a healthy economic environment. A minimal spread between short-term borrowing costs and long-term lending rates compresses banks' profit margins, forcing banks to rely on other businesses to growth earnings. 

And that's just what Citizens, and possibly other banks, are doing. 

"The key to me has been to build up our fee-based businesses so we're not just reliant on lending," Van Saun told TheStreet. "We lend and we have relationships, but then we want to deepen the relationship and do as much as we can for the customer. Over time, we've been investing in a suite of capabilities on the commercial banking side." 

Van Saun mentioned the company recently bought a mortgage firm, a business that can drive fee revenue, especially as refinancing in the mortgage market, spurred by lower rates, has been a theme. He also mentioned wealth management as another fee-based area the company is investing in. 

For fee-generating assets as a whole, "Some of that will be organic and some of that will be acquisitions," he said. 

Citizens' net interest income, or the interest income on loans after paying interest to its own lenders, is roughly 70% of total revenue and will remain so in 2021, according to FactSet consensus estimates. This compares to about 60% for other regional banks like M&T Bank  (MTB) - Get M&T Bank Corporation (MTB) Report and PNC Financial  (PNC) - Get PNC Financial Services Group, Inc. Report, leaving room for improvement for Citizens, which trades at a valuation discount to those peers on a price-to-book value basis. 

Here's the rest of his perspective:

"How do you combat that low rate environment? Certainly through growth in your fee-based activities, but also through reengineering your cost base. As we've seen a bit makeup in digital products during this pandemic we think that's going to be a lasting trend and we have to work really fast and hard to try to digitize the banks end-to-end. That will allow us to be more efficient to take out costs. Those are really the two levers." 

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